Risk aversion heterogeneity and the investment-uncertainty relationship

A simple, dynamic, general-equilibrium model of savings and investment is populated by agents with Kreps-Porteus preferences. Households are heterogeneous in their risk aversion, which explains the negative relationship between aggregate investment and aggregate uncertainty. Agents trade riskless assets to share the aggregate risk, so that in equilibrium a higher uncertainty induces low-risk-averse individuals to increase their position in risky assets and high-risk-averse agents to increase their share of safe bonds. This portfolio effect increases the certainty-equivalent future returns; in response to this rise, savings and investment decrease due to a limited willingness to substitute consumption over time.