Incomplete Markets, Transitory Shocks, and Welfare
While equilibrium allocations in models with incomplete markets are generally not Pareto-efficient, it is often argued that quantitative welfare losses from missing assets are small when time-horizons are long and shocks are transitory. In this paper we use a computational analyses to show that even in the simplest infinite horizon model without aggregate uncertainty welfare losses can be substantial. Furthermore, we show that in this model, welfare losses form incomplete markets to not necessarily disappear when agents become more patient. We identify two scenarios under which this is the case. First, when the economic model is calibrated to higher frequency data, the persistence of negative income shocks must increase as well. In this case, the welfare loss of incomplete markets remains constant even as agents' rate of time preference B>1. Secondly, for a fixed specification of endowment processes, an exogenous decrease of agents' rate of discounting should not affect their abilities to borrow. With exogenous borrowing constraints, the incomplete markets welfare does not converge to complete markets welfare.
|Date of creation:||Feb 2000|
|Contact details of provider:|| Postal: Center for Mathematical Studies in Economics and Management Science, Northwestern University, 580 Jacobs Center, 2001 Sheridan Road, Evanston, IL 60208-2014|
Web page: http://www.kellogg.northwestern.edu/research/math/
More information through EDIRC
|Order Information:|| Email: |
Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.:
- Lucas, Robert E, Jr, 1978. "Asset Prices in an Exchange Economy," Econometrica, Econometric Society, vol. 46(6), pages 1429-1445, November.
- Judd, Kenneth L. & Kubler, Felix & Schmedders, Karl, 2000. "Computing equilibria in infinite-horizon finance economies: The case of one asset," Journal of Economic Dynamics and Control, Elsevier, vol. 24(5-7), pages 1047-1078, June.
- David K. Levine & William R. Zame, 1992.
"Debt Constraints and Equilibrium in Infinite Horizon Economies with Incomplete Markets,"
UCLA Economics Working Papers
666, UCLA Department of Economics.
- Levine, David K. & Zame, William R., 1996. "Debt constraints and equilibrium in infinite horizon economies with incomplete markets," Journal of Mathematical Economics, Elsevier, vol. 26(1), pages 103-131.
- David K. Levine & William Zame, 1996. "Debt Constraints and Equilibrium in Infinite Horizon Economies with Incomplete Markets," Levine's Working Paper Archive 1954, David K. Levine.
- David K. Levine & William R. Zame, 1993. "Debt Constraints and Equilibrium in Infinite Horizon Economies with Incomplete Markets," UCLA Economics Working Papers 703, UCLA Department of Economics.
- S. Rao Aiyagari, 1994.
"Uninsured Idiosyncratic Risk and Aggregate Saving,"
The Quarterly Journal of Economics,
Oxford University Press, vol. 109(3), pages 659-684.
- Kubler, Felix & Schmedders, Karl, 2002. "Recursive Equilibria In Economies With Incomplete Markets," Macroeconomic Dynamics, Cambridge University Press, vol. 6(02), pages 284-306, April.
- 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.
- van Wincoop, Eric, 1999.
"How big are potential welfare gains from international risksharing?,"
Journal of International Economics,
Elsevier, vol. 47(1), pages 109-135, February.
- Eric Van Wincoop, 1998. "How big are potential welfare gains from international risksharing?," Staff Reports 37, Federal Reserve Bank of New York.
- John Heaton & Deborah Lucas, 1993.
"Evaluating the Effects of Incomplete Markets on Risk Sharing and Asset Pricing,"
NBER Working Papers
4249, National Bureau of Economic Research, Inc.
- Heaton, John & Lucas, Deborah J, 1996. "Evaluating the Effects of Incomplete Markets on Risk Sharing and Asset Pricing," Journal of Political Economy, University of Chicago Press, vol. 104(3), pages 443-487, June.
- David K. Levine & William R. Zame, 2002.
"Does Market Incompleteness Matter?,"
Econometric Society, vol. 70(5), pages 1805-1839, September.
- Magill, M. & Quinzii, M., 1992.
"Infinite Horizon Incomplete Markets,"
DELTA Working Papers
92-26, DELTA (Ecole normale supérieure).
- Magill, M. & Quinzii, M., 1993. "Infinite Horizon Incomplete Markets," Papers 9320, Southern California - Department of Economics.
- Magill,Michael & Quinzii,Martine, 1992. "Infinite horizon,Incomplete markets," Discussion Paper Serie A 384, University of Bonn, Germany.
- Magill, M. & Quinzii, M., 1992. "Infinite Horizon Incomplete Markets," Papers 413a, California Davis - Institute of Governmental Affairs.
- Dilip Abreu & Paul Milgrom & David Pearce, 1997.
"Information and timing in repeated partnerships,"
Levine's Working Paper Archive
636, David K. Levine.
- Per Krusell & Anthony A. Smith, Jr., "undated".
"Income and Wealth Heterogeneity in the Macroeconomy,"
GSIA Working Papers
1997-37, Carnegie Mellon University, Tepper School of Business.
- Per Krusell & Anthony A. Smith & Jr., 1998. "Income and Wealth Heterogeneity in the Macroeconomy," Journal of Political Economy, University of Chicago Press, vol. 106(5), pages 867-896, October.
- Krusell, P & Smith Jr, A-A, 1995. "Income and Wealth Heterogeneity in the Macroeconomic," RCER Working Papers 399, University of Rochester - Center for Economic Research (RCER).
- David K Levine & William R Zame, 2000. "Risk Sharing and Market Incompleteness," Levine's Working Paper Archive 2080, David K. Levine.
- Manuel Santos, 1998. "Numerical Solution of Dynamic Economic Models," Working Papers 9804, Centro de Investigacion Economica, ITAM.
- Wouter J. Denhaan, 2000.
"The Importance Of The Number Of Different Agents In A Heterogeneous Asset-Pricing Model,"
Computing in Economics and Finance 2000
349, Society for Computational Economics.
- Den Haan, Wouter J., 2001. "The importance of the number of different agents in a heterogeneous asset-pricing model," Journal of Economic Dynamics and Control, Elsevier, vol. 25(5), pages 721-746, May.
- Huggett, Mark, 1993. "The risk-free rate in heterogeneous-agent incomplete-insurance economies," Journal of Economic Dynamics and Control, Elsevier, vol. 17(5-6), pages 953-969.
- Michael Magill & Martine Quinzii, 2000. "Infinite horizon CAPM equilibrium," Economic Theory, Springer;Society for the Advancement of Economic Theory (SAET), vol. 15(1), pages 103-138.
When requesting a correction, please mention this item's handle: RePEc:nwu:cmsems:1285. See general information about how to correct material in RePEc.
For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: (Fran Walker)
If references are entirely missing, you can add them using this form.