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Incomplete Markets, Growth, and the Business Cycle

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  • George-Marios Angeletos
  • Laurent E. Calvet

Abstract

We introduce a Ramsey growth model with incomplete markets, decentralized production, and idiosyncratic technological risk. The combination of uninsurable shocks with the precautionary motive can slow down capital accumulation or give rise to persistent fluctuations even when agents are very patient and technology is strictly convex. The model generates closed-form expressions for the equilibrium dynamics under a finite or infinite horizon. Multiple steady states and poverty traps can arise from the endogeneity of the interest rate instead of the usual wealth effect. Depending on the economy's parameters, the local dynamics around a steady state are locally unique, totally unstable or locally undetermined, and the equilibrium path can be attracted to a limit cycle. In calibrated examples, financial incompleteness substantially slows down convergence to the steady state and thus increases the persistence of aggregate shocks.

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Paper provided by Harvard - Institute of Economic Research in its series Harvard Institute of Economic Research Working Papers with number 1910.

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Date of creation: 2001
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Handle: RePEc:fth:harver:1910

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Citations

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Cited by:
  1. Alejandro Gaytán González & Romain Ranciere, 2005. "Wealth, Financial Intermediation and Growth," Working Papers 2005-02, Banco de México.
  2. Laurent Calvet & Martin Gonzalez-Eiras & Paolo Sodini, 2003. "Financial Innovation, Market Participation and Asset Prices," NBER Working Papers 9840, National Bureau of Economic Research, Inc.
  3. Tom Krebs, 2006. "Recursive equilibrium in endogenous growth models with incomplete markets," Economic Theory, Springer, vol. 29(3), pages 505-523, November.
  4. Stephen Turnovsky & Marcelo Bianconi, . "The Welfare Gains from Stabilization in a Stochastically Growing Economy with Idiosyncratic Shocks and Flexible Labor Supply," Working Papers UWEC-2004-08-P, University of Washington, Department of Economics.
  5. Alejandro Gaytán González & Romain Ranciere, 2005. "Banks, Liquidity Crises and Economic Growth," Working Papers 2005-03, Banco de México.
  6. George-Marios Angeletos & Vasia Panousi, 2011. "Financial Integration, Entrepreneurial Risk and Global Imbalances," NBER Working Papers 16761, National Bureau of Economic Research, Inc.

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