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Recursive Equilibria In An Aiyagari‐Style Economy With Permanent Income Shocks

  • MORITZ KUHN

In this paper, we prove the existence of a recursive competitive equilibrium (RCE) for an Aiyagari style economy with permanent income shocks and perpetual youth structure. We show that there exist equilibria where borrowing constraints are never binding. This allows us to establish a non-trivial lower bound on the equilibrium interest rate. To solve the individual’s problem, we present a new approach that uses lattices of consumption functions to deal with the non-compact state space and the unbounded utility function. The approach uses only the first order conditions of the problem (Euler equations). The proof is constructive and it serves as a theoretical foundation for the convergence of a policy function iteration procedure.

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Article provided by Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association in its journal International Economic Review.

Volume (Year): 54 (2013)
Issue (Month): (08)
Pages: 807-835

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Handle: RePEc:wly:iecrev:v:54:y:2013:i::p:807-835
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