Reconciling Increasing Wealth Inequality with Increasing Market Participation and a Decreasing Equity Premium

Abstract

Over the last 30 years stock market participation has increased and the equity premium has declined, this would presumably lead to a decrease in wealth inequality. However, just the opposite has happened as wealth inequality has increased. I propose a general equilibrium model which can both resolve the equity premium puzzle and reproduce the high inequality of wealth seen in the data. I use this model to show that increasing wage inequality can reconcile the initially incompatible observations above. I also use the model to show that changes in age demographics may be responsible for a significant fraction of the decreasing equity premium.