Intertemporal production and asset pricing: a duality approach

This paper analyzes a firmʹs intertemporal optimization problem under uncertainty and presents a new asset pricing model from the vantage point of the production side of the economy using the duality principle. The intertemporal profit-maximization problem is formulated using the familiar cost function, and the production Euler equation that encapsulates the joint behavior of production and asset returns is derived. An assetʹs risk is measured by its covariance with the stochastic discount factor represented by the ratio of discounted marginal costs. The risk premium is determined by the conditional covariances of asset returns with output growth scaled by the degree of scale economies and with input price changes weighted by the cost share of an input. The proposed model has the standard structure of a multibeta pricing model and suggests four economic risk factors–output growth, the return on human capital, the return on physical capital, and technology shocks–for use in empirical analysis.