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Uninsured Idiosyncratic Investment Risk: Positive and Normative Implications

Author

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  • George-Marios Angeletos

    (Massachusetts Institute of Technology)

Abstract

The neoclassical growth model is augmented to study the macroeconomic effects of uninsured idiosyncratic investment risk. As compared to complete markets, the steady state is characterized by both a lower interest rate and a lower capital stock when the elasticity of intertemporal substitution is sufficiently high relative to the contribution of private equity in total wealth. Turning to normative implications, the constrained efficient level of investment in a two-period version of the model is higher than the equilibrium one---and hence a subsidy on investment is optimal---even in situations where the equilibrium features higher capital that the first best. While the positive results contrast with Bewley-type models, where labor-income risk necessarily leads to higher aggregate saving, the normative results highlight how idiosyncratic investment (or entrepreneurial) risk can have novel implications also for optimal taxation

Suggested Citation

  • George-Marios Angeletos, 2006. "Uninsured Idiosyncratic Investment Risk: Positive and Normative Implications," 2006 Meeting Papers 596, Society for Economic Dynamics.
    • Handle: RePEc:red:sed006:596
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    Citations

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    Cited by:

    1. Tommaso Monacelli & Luca Sala & Daniele Siena, 2018. "Real Interest Rates and Productivity in Small Open Economies," Working papers 704, Banque de France.
    2. Hakan Berument & N. Nergiz Dincer & Zafer Mustafaoglu, 2011. "Total factor productivity and macroeconomic instability," The Journal of International Trade & Economic Development, Taylor & Francis Journals, vol. 20(5), pages 605-629, September.

    More about this item

    Keywords

    idiosyncratic risk; incomplete markets; efficiency; pecuniary externality;
    All these keywords.

    JEL classification:

    • D52 - Microeconomics - - General Equilibrium and Disequilibrium - - - Incomplete Markets
    • E13 - Macroeconomics and Monetary Economics - - General Aggregative Models - - - Neoclassical
    • E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles

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