Abstract
This paper extends the AK production model in Pindyck and Wang (2013) into a more general setting in which the volatility of capital stock is stochastic and driven by shocks. After solving the equilibrium, the fundamental shocks are embedded into the stock price and the leverage effect is contributed from three distinct channels. As two applications, we employ our extended AK production model to match well the negative variance risk premium and the Black-Scholes implied volatility surface.
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