Price Uncertainty and Price-Contingent Securities
I extend the classical general equilibrium treatment of uncertainty about exogenous states of nature to uncertainty about prices. Traders do not know the prices at which markets will clear but have expectations over possible prices. They trade price-contingent securities (derivatives) to insure against the risks arising from this uncertainty. I establish four results. One is set of conditions that are necessary and sufficient for the existence of equilibrium (called an equilibrium with price insurance) in this framework. A second is that equilibria with price insurance are Pareto efficient. I give conditions under which agents are fully insured at an equilibrium. Finally I show that agents' price expectations matter in the sense that they affect the equilibrium allocation of resources, and that the existence of price-contingent securities alters the equilibrium of the underlying real economy.
|Date of creation:||Aug 2017|
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- Graciela Chichilnisky & Geoffrey Heal, 1998. "A unified treatment of finite and infinite economies: limited arbitrage is necessary and sufficient for the existence of equilibrium and the core," Economic Theory, Springer;Society for the Advancement of Economic Theory (SAET), vol. 12(1), pages 163-176.
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- Chichilnisky, Graciela, 1995. "Limited Arbitrage Is Necessary and Sufficient for the Existence of a Competitive Equilibrium with or without Short Sales," Economic Theory, Springer;Society for the Advancement of Economic Theory (SAET), vol. 5(1), pages 79-108, January.
- Stigum, Bernt P., 1972. "Balanced growth under uncertainty," Journal of Economic Theory, Elsevier, vol. 5(1), pages 42-68, August.
- Werner, Jan, 1987. "Arbitrage and the Existence of Competitive Equilibrium," Econometrica, Econometric Society, vol. 55(6), pages 1403-1418, November.
- Henrotte,Philippe, 1992. "Existence and optimality of equilibria in markets with tradeable derivative securities," Discussion Paper Serie A 380, University of Bonn, Germany.
- Svensson, Lars E O, 1981. "Efficiency and Speculation in a Model with Price-Contingent Contracts," Econometrica, Econometric Society, vol. 49(1), pages 131-151, January.
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