Production-Based Asset Pricing in a Monetary Economy: Theory and Evidence

This paper develops a capital asset pricing model based on the production side of a monetary economy. Relying on a general version of the standard Real Business Cycle model with cash and credit goods, we find that the factors determining the mean excess returns on financial assets are i) real capital growth, ii) the nominal interest rate and iii) the capital-to-wealth ratio. Our model is parsimonious in that the results rely neither on any particular specification of the production function nor on capital adjustment costs. Empirical evidence gives strong support to the presence of the elicited factors in the cross section of excess returns on portfolios sorted i) by firm characteristics and ii) by industry.