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Overlapping generations and idiosyncratic risk: Can prices reveal the best policy?

  • Fiorini, Luciana C.

Incomplete markets in overlapping generations leave room for Pareto improvement. We analyze a model with two goods and idiosyncratic shocks. We compare market equilibrium with the constrained efficient equilibrium allocation and demonstrate that, when shocks are symmetric and do not affect all goods, prescription of the optimal policy depends exclusively on information about relative prices. This policy, based on lump sum transfers of a nominal asset, changes the rate of return on savings, inducing new choices of consumption and new equilibrium prices. When shocks affect all goods, however, relative prices are not sufficient information for the policy prescription. The magnitude of the shocks and of the equilibrium levels of consumption become important as well.

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File URL: http://www.sciencedirect.com/science/article/B6VBY-4T4Y60T-1/2/935d418cf67b0f255c4714acdf1849ea
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Article provided by Elsevier in its journal Journal of Mathematical Economics.

Volume (Year): 44 (2008)
Issue (Month): 12 (December)
Pages: 1312-1320

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Handle: RePEc:eee:mateco:v:44:y:2008:i:12:p:1312-1320
Contact details of provider: Web page: http://www.elsevier.com/locate/jmateco

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  1. Hart, Oliver D., 1975. "On the optimality of equilibrium when the market structure is incomplete," Journal of Economic Theory, Elsevier, vol. 11(3), pages 418-443, December.
  2. Sergio Turner, 2004. "Pareto Improving Taxation in Incomplete Markets," Econometric Society 2004 North American Summer Meetings 614, Econometric Society.
  3. Paul A. Samuelson, 1958. "An Exact Consumption-Loan Model of Interest with or without the Social Contrivance of Money," Journal of Political Economy, University of Chicago Press, vol. 66, pages 467.
  4. Atsushi Kajii & Antonio Villanacci & Alessandro Citanna, 1998. "Constrained suboptimality in incomplete markets: a general approach and two applications," Economic Theory, Springer, vol. 11(3), pages 495-521.
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