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This paper characterizes conditions for external habit formation to render habit-driven equilibrium outcomes observationally equivalent to habit-free equilibrium outcomes in multi-agent complete markets. The uniformity of the ratios of habit levels to aggregate consumptions across consumption goods leads to the irrelevance of habit formation to excess demand and asset prices. Thus, external habit formation may have no tangible effect on excess demand and the equity premium if the cross-sectional habitual variations are not substantial. The micro-level analysis of habit formation produces useful information about the habitual effect on the individual welfare and the existence of competitive equilibrium which cannot be addressed in a representative agent framework.

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This paper investigates a new volatility model, in which a regime switching parameter representing a high or low volatility level is added in the GARCH(1,1) model. Importantly, the model adopts the endogenous regime switching model recently introduced by Chang et al. (2017) and the future transition between states depends on the current state as well as the realization of the underlying financial time series. Application on the U.S. monthly stock index return series shows that the endogenous regime switching mechanism improves the data fitting and forecasting of stock return volatility. Moreover, using the latent factor extracted from the model and the FRED-MD data set, we employ the adaptive LASSO method to examine which macroeconomic variables are related to stock market volatility.

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This paper estimates the welfare cost of the US business cycle episodes over the period 1964-2018. Under the restriction of a balanced growth path, the representative consumer in a frictionless, competitive business cycle world would reduce GDP by around 1.3 percent each year to eliminate business cycle risk; our estimates are comparable to the benefits of stabilization by Barro (2009). The key to these results is augmentation with investment-specific shocks `a la Fisher (2006) to a standard business cycle model.