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Uninsurable Investment Risks

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Author Info

  • Césaire A. Meh
  • Vincenzo Quadrini

Abstract

The authors study a general-equilibrium economy in which agents have the ability to invest in a risky technology. The investment risk cannot be fully insured with optimal contracts, because shocks are private information. The authors show that the presence of these risks may lead to an underaccumulation of capital relative to an economy where idiosyncratic shocks can be fully insured. They also show that, although the availability of state-contingent (optimal) contracts cannot provide full insurance, it brings the aggregate stock of capital close to the complete markets level. Institutional reforms that make the use of these contracts possible have important welfare consequences.

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Bibliographic Info

Paper provided by Bank of Canada in its series Working Papers with number 04-29.

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Length: 35 pages
Date of creation: 2004
Date of revision:
Handle: RePEc:bca:bocawp:04-29

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Keywords: Economic models; Financial institutions; Financial markets;

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References

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  1. Aubhik Khan & B. Ravikumar, 1998. "Growth and Risk-Sharing with Private Information," Macroeconomics 9802003, EconWPA.
  2. Drew Fudenberg & Bengt Holmstrom & Paul Milgrom, 1987. "Short-Term Contracts and Long-Term Agency Relationships," Working papers 468, Massachusetts Institute of Technology (MIT), Department of Economics.
  3. Mikhail Golosov & Narayana Kocherlakota & Aleh Tsyvinski, 2002. "Optimal Indirect and Capital Taxation," Levine's Working Paper Archive 391749000000000449, David K. Levine.
  4. Veronika Dolar & Césaire Meh, 2002. "Financial Structure and Economic Growth: A Non-Technical Survey," Working Papers 02-24, Bank of Canada.
  5. Luigi Guiso & Tullio Jappelli, 2000. "Household Portfolios in Italy," CSEF Working Papers 43, Centre for Studies in Economics and Finance (CSEF), University of Naples, Italy.
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  7. Gary D. Hansen & Ayse Imrohoroglu, 1990. "The Role of Unemployment Insurance in an Economy with Liquidity Constraints and Moral Hazard," UCLA Economics Working Papers 583, UCLA Department of Economics.
  8. William M. Gentry & R. Glenn Hubbard, 2000. "Entrepreneurship and Household Saving," NBER Working Papers 7894, National Bureau of Economic Research, Inc.
  9. Imrohoruglu, Ayse, 1989. "Cost of Business Cycles with Indivisibilities and Liquidity Constraints," Journal of Political Economy, University of Chicago Press, vol. 97(6), pages 1364-83, December.
  10. Levine, Ross, 1996. "Financial development and economic growth : views and agenda," Policy Research Working Paper Series 1678, The World Bank.
  11. Chatterjee, Satyajit, 1994. "Transitional dynamics and the distribution of wealth in a neoclassical growth model," Journal of Public Economics, Elsevier, vol. 54(1), pages 97-119, May.
  12. Aiyagari, S Rao, 1994. "Uninsured Idiosyncratic Risk and Aggregate Saving," The Quarterly Journal of Economics, MIT Press, vol. 109(3), pages 659-84, August.
  13. Quadrini, Vincenzo, 1999. "The Importance of Entrepreneurship for Wealth Concentration and Mobility," Review of Income and Wealth, International Association for Research in Income and Wealth, vol. 45(1), pages 1-19, March.
  14. Christopher D. Carroll, 2000. "Portfolios of the Rich," NBER Working Papers 7826, National Bureau of Economic Research, Inc.
  15. Himmelberg, Charles P. & Hubbard, R. Glenn & Love, Inessa, 2002. "Investor protection, ownership, and the cost of capital," Policy Research Working Paper Series 2834, The World Bank.
  16. Huggett, Mark, 1993. "The risk-free rate in heterogeneous-agent incomplete-insurance economies," Journal of Economic Dynamics and Control, Elsevier, vol. 17(5-6), pages 953-969.
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Citations

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Cited by:
  1. Pardo, Cristian, 2013. "Entrepreneurial risk aversion, net worth effects and real fluctuations," Review of Financial Economics, Elsevier, vol. 22(4), pages 158-168.
  2. George-Marios Angeletos, 2005. "Uninsured Idiosyncratic Investment Risk," NBER Working Papers 11180, National Bureau of Economic Research, Inc.

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