A Tale of Two Volatilities: Sectoral Uncertainty, Growth, and Asset-Prices

What is the impact of higher technological volatility on asset-prices and macroeconomic aggregates? I find the answer hinges on its sectoral origin. I document several novel empirical facts: Volatility that originates from the consumption sector plays the “traditional” role of depressing the real economy and stock prices, whereas volatility that originates from the investment sector boosts prices and growth; Investment (consumption) sector’s technological volatility has a positive (negative) market-price of risk; Investment sector’s technological volatility helps explain return spreads based on momentum, past profitability, and Tobin’s Q. I show that a standard DSGE two-sector model fails to fully explain these findings, while a model that features monopolistic power for firms and sticky prices, as well as early resolution of uncertainty, can quantitatively explain the differential impact of sectoral volatilities on real and financial variables. In all, the sectoral decomposition of volatility can reconcile existing competing evidence related to the impact of volatility shocks. ∗Gill Segal ([email protected]), The Wharton School, University of Pennsylvania, 3620 Locust Walk, Philadelphia, PA 19104, USA. I thank my advisors Amir Yaron, João Gomes, Itay Goldstein, Ivan Shaliastovich, and the participants at the Wharton Macro Seminar for their helpful comments. All mistakes are my own.