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Uninsured Idiosyncratic Investment Risk and Aggregate Saving

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  • George-Marios Angeletos

    (Massachusetts Institute of Technology)

Abstract

This paper augments the neoclassical growth model to study the macroeconomic effects of uninsured idiosyncratic investment, or capital-income, risk. Under standard assumptions for preferences and technologies, individual policy rules are linear in individual wealth, ensuring that the equilibrium dynamics for aggregate quantities and prices are independent of the wealth distribution. This maintains the analysis highly tractable despite the financial incompleteness. 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 higher than the fraction of private equity in total wealth. For empirically plausible parametrizations, this condition is easily satisfied, and the reduction in aggregate saving and income is quantitatively significant. These findings contrast with Bewley models (e.g., Aiyagari, 1994), where idiosyncratic labor-income risk leads to higher aggregate saving and income. (Copyright: Elsevier)

Suggested Citation

  • George-Marios Angeletos, 2007. "Uninsured Idiosyncratic Investment Risk and Aggregate Saving," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 10(1), pages 1-30, January.
  • Handle: RePEc:red:issued:06-127
    DOI: 10.1016/j.red.2006.11.001
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    File URL: http://dx.doi.org/10.1016/j.red.2006.11.001
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    More about this item

    Keywords

    Incomplete markets; Idiosyncratic risk; Private equity; Precautionary saving;

    JEL classification:

    • D52 - Microeconomics - - General Equilibrium and Disequilibrium - - - Incomplete Markets
    • E13 - Macroeconomics and Monetary Economics - - General Aggregative Models - - - Neoclassical
    • G11 - Financial Economics - - General Financial Markets - - - Portfolio Choice; Investment Decisions
    • O16 - Economic Development, Innovation, Technological Change, and Growth - - Economic Development - - - Financial Markets; Saving and Capital Investment; Corporate Finance and Governance
    • O41 - Economic Development, Innovation, Technological Change, and Growth - - Economic Growth and Aggregate Productivity - - - One, Two, and Multisector Growth Models

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