How do stock market experiences shape wealth inequality?

This paper develops a continuous-time OLG model, incorporating rare disasters and agents who learn more from their own experiences. Disasters such as the Great Depression make investors distrustful of the market. Generations that experience disasters save in the form of safer portfolios, even if similar disasters are not likely to occur again during their lifetimes. “Fearing to attempt” therefore inhibits wealth accumulation by these “depression babies” relative to other generations. This effect is amplified in the general equilibrium since the equity premium is relatively high following a disaster. When calibrated to US data, the model can explain around half of the old-to-young wealth ratio decrease between the Great Depression and the 1980s, and around 7% of the subsequent increase. The model can also explain about a quarter of the increase of top 1% wealth shares and is consistent with observations of life cycle portfolio choices, and changes in asset returns following disasters.