A safe asset's real value is insulated from shocks, including declines in GDP from rare macroeconomic disasters. However, in a Lucas-tree world, the aggregate risk is given by the process for GDP and cannot be altered by the creation of safe assets. Therefore, in the equilibrium of a representative-agent version of this economy, the quantity of safe assets will be nil. With heterogeneity in coefficients of relative risk aversion, safe assets can take the form of private bond issues from low-risk-aversion to high-risk-aversion agents. The model assumes Epstein-Zin/Weil preferences with common values of the intertemporal elasticity of substitution and the rate of time preference. The model achieves stationarity by allowing for random shifts in coefficients of relative risk aversion. We derive the equilibrium values of the ratio of safe to total assets, the shares of each agent in equity ownership and wealth, and the rates of return …
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