Risk Spillovers and Hedging: Why Do Firms Invest Too Much in Systemic Risk?
AbstractIn this paper we show that free entry decisions may be socially ineffcient, even in a perfectly competitive homogeneous goods market with non-lumpy investments. In our model, inefficient entry decisions are the result of risk-aversion of incumbent producers and consumers, combined with incomplete financial markets which limit risk-sharing between market actors. Investments in productive assets affect the distribution of equilibrium prices and quantities, and create risk spillovers. From a societal perspective, entrants underinvest in technologies that would reduce systemic sector risk, and may overinvest in risk-increasing technologies. The inefficiency is shown to disappear when a complete financial market of tradable risk-sharing instruments is available, although the introduction of any individual tradable instrument may actually decrease effciency.
Download InfoIf you experience problems downloading a file, check if you have the proper application to view it first. In case of further problems read the IDEAS help page. Note that these files are not on the IDEAS site. Please be patient as the files may be large.
Bibliographic InfoPaper provided by European University Institute in its series RSCAS Working Papers with number 2012/35.
Date of creation: 05 Jun 2012
Date of revision:
Other versions of this item:
- Willems, Bert & Morbee, J., 2011. "Risk Spillovers and Hedging: Why Do Firms Invest Too Much in Systemic Risk?," Discussion Paper 2011-057, Tilburg University, Center for Economic Research.
- Bert WILLEMS & Joris MORBEE, 2011. "Risk spillovers and hedging: why do firms invest too much in systemic risk?," Center for Economic Studies - Discussion papers ces11.17, Katholieke Universiteit Leuven, Centrum voor Economische Studiën.
- Willems, Bert & Morbee, J., 2011. "Risk Spillovers and Hedging: Why Do Firms Invest Too Much in Systemic Risk?," Discussion Paper 2011-029, Tilburg University, Tilburg Law and Economic Center.
- L51 - Industrial Organization - - Regulation and Industrial Policy - - - Economics of Regulation
- L97 - Industrial Organization - - Industry Studies: Transportation and Utilities - - - Utilities: General
- H23 - Public Economics - - Taxation, Subsidies, and Revenue - - - Externalities; Redistributive Effects; Environmental Taxes and Subsidies
- G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
This paper has been announced in the following NEP Reports:
- NEP-ALL-2013-04-20 (All new papers)
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Hugonnier, Julien & Morellec, Erwan, 2007. "Corporate control and real investment in incomplete markets," Journal of Economic Dynamics and Control, Elsevier, vol. 31(5), pages 1781-1800, May.
- Schmalensee, Richard, 1981.
"Economies of Scale and Barriers to Entry,"
Journal of Political Economy,
University of Chicago Press, vol. 89(6), pages 1228-38, December.
- Franco Modigliani, 1958. "New Developments on the Oligopoly Front," Journal of Political Economy, University of Chicago Press, vol. 66, pages 215.
- Dixit, Avinash, 1979.
"The Role of Investment in Entry-Deterrence,"
The Warwick Economics Research Paper Series (TWERPS)
140, University of Warwick, Department of Economics.
- Perrakis, Stylianos & Warskett, George, 1983. "Capacity and Entry under Demand Uncertainty," Review of Economic Studies, Wiley Blackwell, vol. 50(3), pages 495-511, July.
- Eric S. Maskin, 1999. "Uncertainty and entry deterrence," Economic Theory, Springer, vol. 14(2), pages 429-437.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (RSCAS web unit).
If references are entirely missing, you can add them using this form.