Understanding the equity risk premium in the euro zone

The equity risk premium has remained very high in the euro zone, unlike in the United States. What accounts for this difference and the high level of the euro zone’s equity risk premium? The equity risk premium is a residual and does not directly measure risk aversion. It simply results from the calculation of the discount rate that equalises share prices and the discounted sum of future dividends. If it is high in Europe, this may be because: Demand for equities (from residents or non-residents) is lower in the euro zone, which is the case when one looks at the stock of shareholdings but not flows of share purchases; The long-term interest rate is lower in the euro zone than in the United States; The supply of equities is higher in the euro zone than in the United States. As long as these factors persist, equity risk premia are unlikely to converge between the United States and the euro zone.