We formulate a consumption-based asset pricing model in which aggregate risk aversion is time-varying in response to both news about consumption growth (as in a habit formation model) and news about inflation. We estimate our model and explore its pricing implications for the term structure of interest rates and the cross-section of stock returns. Our empirical results support the hypothesis that aggregate risk aversion varies in response to news about inflation. The induced time-variation in risk aversion does not appear to proxy for inflation uncertainty or economic growth. © 2003 Elsevier B.V. All rights reserved.