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The importance of the number of different agents in a heterogeneous asset-pricing model

  • Den Haan, Wouter J.

In this paper, I compare a two-agent asset-pricing model with the corresponding model with a continuum of agents. In a two-agent economy, interest rates respond to idiosyncratic income shocks because each agent represents half of the population. These interest rate effects facilitate consumption smoothing. An agent in a two-agent economy, however, can never lend more than the other agent is allowed to borrow, which prevents him from building a buffer stock of assets. For most parameter values, the first effect is more important. For some parameter values, the interest rate effects in the two-agent economy are so strong that a relaxation of the borrowing constraint reduces an agent's utility.In contrast to these differences, I find that for most parameter values there are no large differences in average interest rates across the two types of economies. In addition, I analyze the business cycle behavior of interest rates in an incomplete markets economy with a continuum of agents. The dynamic response of interest rates to aggregate shocks is a lot more complicated than the response in a complete markets economy and the magnitude of the response is bigger.

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Article provided by Elsevier in its journal Journal of Economic Dynamics and Control.

Volume (Year): 25 (2001)
Issue (Month): 5 (May)
Pages: 721-746

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Handle: RePEc:eee:dyncon:v:25:y:2001:i:5:p:721-746
Contact details of provider: Web page: http://www.elsevier.com/locate/jedc

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