An Experimental Test of the Lucas Asset Pricing Model

We implement a dynamic asset pricing experiment in the spirit of Lucas (1978) with storable assets and non-storable cash. In one treatment we impose diminishing marginal returns to cash to incentivize consumption-smoothing across periods, while in a second treatment there is no induced motive for trade. In the former case we find that subjects use the asset to smooth consumption though the asset trades at a discount relative to the risk-neutral fundamental price. This under-pricing is a departure from the asset price “bubbles” observed in the large experimental asset pricing literature originating with Smith et al. (1988). In our second treatment with no induced motive for trade (as in the Smith et al. design) assets trade at a premium relative to expected value and shareholdings are highly concentrated. Elimination of asset price uncertainty in additional experimental treatments serves to reinforce these same observations. JEL Codes: C90, D51, D91, G12.