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Asset Prices and Efficiency in a Krebs Economy

Listed author(s):
  • Alexis Akira Toda

    (University of California San Diego)

I study the asset pricing implications and the efficiency of a tractable dynamic stochastic general equilibrium model with heterogeneous agents and incomplete markets along the lines of Krebs [Krebs, T., 2003. Human Capital Risk and Economic Growth. Quarterly Journal of Economics 118(2), 709-744]. Contrary to previous applications of these types of models, I find that generically the distribution of idiosyncratic shocks affects the risk premia of aggregate shocks and that the equilibrium is constrained inefficient in the sense that a planner can Pareto improve the equilibrium outcome by assigning different portfolio choices to agents. The inefficiency is caused by a 'portfolio externality': the average portfolio of the economy affects the portfolio return of each agent. The constrained efficient outcome can be achieved through linear taxes and subsidies that I characterize in closed-form. (Copyright: Elsevier)

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File URL: http://dx.doi.org/10.1016/j.red.2014.11.003
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Article provided by Elsevier for the Society for Economic Dynamics in its journal Review of Economic Dynamics.

Volume (Year): 18 (2015)
Issue (Month): 4 (October)
Pages: 957-978

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Handle: RePEc:red:issued:13-196
DOI: 10.1016/j.red.2014.11.003
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  1. Constantinides, George M & Duffie, Darrell, 1996. "Asset Pricing with Heterogeneous Consumers," Journal of Political Economy, University of Chicago Press, vol. 104(2), pages 219-240, April.
  2. Mehra, Rajnish & Prescott, Edward C., 1985. "The equity premium: A puzzle," Journal of Monetary Economics, Elsevier, vol. 15(2), pages 145-161, March.
  3. Kocherlakota, Narayana R, 1990. " Disentangling the Coefficient of Relative Risk Aversion from the Elasticity of Intertemporal Substitution: An Irrelevance Result," Journal of Finance, American Finance Association, vol. 45(1), pages 175-190, March.
  4. Julio Dávila & Jay H. Hong & Per Krusell & José‐Víctor Ríos‐Rull, 2012. "Constrained Efficiency in the Neoclassical Growth Model With Uninsurable Idiosyncratic Shocks," Econometrica, Econometric Society, vol. 80(6), pages 2431-2467, November.
  5. Piero Gottardi & Atsushi Kajii & Tomoyuki Nakajima, 2010. "Optimal taxation and constrained inefficiency in an infinite-horizon economy with incomplete markets," KIER Working Papers 745, Kyoto University, Institute of Economic Research.
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  8. Toda, Alexis Akira, 2014. "Incomplete market dynamics and cross-sectional distributions," Journal of Economic Theory, Elsevier, vol. 154(C), pages 310-348.
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  12. S. Rao Aiyagari, 1994. "Uninsured Idiosyncratic Risk and Aggregate Saving," The Quarterly Journal of Economics, Oxford University Press, vol. 109(3), pages 659-684.
  13. Tom Krebs, 2003. "Human Capital Risk and Economic Growth," The Quarterly Journal of Economics, Oxford University Press, vol. 118(2), pages 709-744.
  14. Atsushi Kajii & Antonio Villanacci & Alessandro Citanna, 1998. "Constrained suboptimality in incomplete markets: a general approach and two applications," Economic Theory, Springer;Society for the Advancement of Economic Theory (SAET), vol. 11(3), pages 495-521.
  15. Mark Rubinstein, 1976. "The Valuation of Uncertain Income Streams and the Pricing of Options," Bell Journal of Economics, The RAND Corporation, vol. 7(2), pages 407-425, Autumn.
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  17. Geanakoplos, J. & Magill, M. & Quinzii, M. & Dreze, J., 1990. "Generic inefficiency of stock market equilibrium when markets are incomplete," Journal of Mathematical Economics, Elsevier, vol. 19(1-2), pages 113-151.
  18. Saito, Makoto, 1998. "A simple model of incomplete insurance the case of permanent shocks," Journal of Economic Dynamics and Control, Elsevier, vol. 22(5), pages 763-777, May.
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