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Sunk Investments Lead to Unpredictable Prices

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  • George Mailath

    ()
    (Department of Economics, University of Pennsylvania)

  • Andrew Postlewaite

    ()
    (Department of Economics, University of Pennsylvania)

  • Larry Samuelson

    ()
    (Department of Economics, University of Wisconsin-Madison)

Abstract

We study transactions that require investments before trading in a competitive market, when forward contracts fixing the transaction price are absent. We show that, despite the market being perfectly competitive and subject to arbitrarily little uncertainty, the inability to jointly determine investment levels and prices may make it impossible for buyers and sellers to predict the prices at which they will trade, leading to inefficient levels of investment and trade.

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File URL: http://economics.sas.upenn.edu/system/files/working-papers/03-014.pdf
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Bibliographic Info

Paper provided by Penn Institute for Economic Research, Department of Economics, University of Pennsylvania in its series PIER Working Paper Archive with number 03-014.

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Length: 35 pages
Date of creation: 03 Jun 2003
Date of revision:
Handle: RePEc:pen:papers:03-014

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Keywords: General equilibrium; sunspots; incomplete markets;

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  1. Grossman, Sanford J. & Hart, Oliver D., 1986. "The Costs and Benefits of Ownership: A Theory of Vertical and Lateral Integration," Scholarly Articles 3450060, Harvard University Department of Economics.
  2. Robert J. Shiller & Allan N. Weiss, 1994. "Home Equity Insurance," NBER Working Papers 4830, National Bureau of Economic Research, Inc.
  3. Harold L. Cole & George J. Mailath & Andrew Postlewaite, 2000. "Efficient Non-Contractible Investments in Large Economies," CARESS Working Papres, University of Pennsylvania Center for Analytic Research and Economics in the Social Sciences eff-inv-large, University of Pennsylvania Center for Analytic Research and Economics in the Social Sciences.
  4. Harold L. Cole & George J. Mailath & Andrew Postlewaite, . "Efficient Non-Contractible Investments," Penn CARESS Working Papers 08d6793d32cab8f6e1f46dac0, Penn Economics Department.
  5. Manuelli, Rodolfo & Peck, James, 1992. "Sunspot-like effects of random endowments," Journal of Economic Dynamics and Control, Elsevier, Elsevier, vol. 16(2), pages 193-206, April.
  6. Franklin Allen & Douglas Gale, 2003. "Financial Fragility, Liquidity and Asset Prices," Center for Financial Institutions Working Papers, Wharton School Center for Financial Institutions, University of Pennsylvania 01-37, Wharton School Center for Financial Institutions, University of Pennsylvania.
  7. Paul Milgrom & Ilya Segal, 2002. "Envelope Theorems for Arbitrary Choice Sets," Econometrica, Econometric Society, Econometric Society, vol. 70(2), pages 583-601, March.
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