Intrinsic bubbles and asset price volatility

Summary Under what conditions is the price of a bubbly asset more (less) volatile than the asset's market fundamental? The answer depends on agents' attitudes towards risk. If higher current consumption makes agents more (less) risk averse in the future, then the bubbly asset price fluctuates less (more) than the fundamental. This result shows that the interaction between intrinsic bubbles and asset fundamentals critically depends on a feature of the utility function that does not appear in standard models with time-separable utility.Financial support from the Department of Economics at Texas A&M University, the Office for International Coordination at Texas A&M University, and the Deutsche Forschungsgemeinschaft, Sonderforschungsbereich 303 at the University of Bonn, is gratefully acknowledged. The views expressed are those of the authors and do not necessarily represent those of the International Monetary Fund.