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Dynamic Competitive Economies with Complete Markets and Collateral Constraints

  • Felix Kubler

    (University of Zurich and SFI)

  • Piero Gottardi

    (European University Institute)

In this paper we examine the competitive equilibria of a dynamic stochastic economy with complete markets. We show that the completeness of the market requires both the set of asset payoffs and collateral levels to be sufficiently rich, so as to allow to decentralize the equilibrium allocations obtained in Arrow-Debreu markets subject to a series of appropriate limited pledgeability constraints. We provide then sufficient conditions for equilibria to be Pareto efficient and show that when collateral is scarce equilibria are also often constrained inefficient, in the sense that imposing tighter borrowing restrictions can make everybody in the economy better off. We derive sufficient conditions for the existence of Markov equilibria and show that they often have finite support. The model is then tractable and its equilibria can be computed with arbitrary accuracy. We carry out on this basis a quantitative assessment of the risk sharing and efficiency properties of equilibria.

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Paper provided by Society for Economic Dynamics in its series 2012 Meeting Papers with number 467.

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Date of creation: 2012
Date of revision:
Handle: RePEc:red:sed012:467
Contact details of provider: Postal: Society for Economic Dynamics Marina Azzimonti Department of Economics Stonybrook University 10 Nicolls Road Stonybrook NY 11790 USA
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  1. Aiyagari, S.R. & Gertler, M., 1998. ""Overreaction" of Asset Prices in General Equilibrium," Working Papers 98-25, C.V. Starr Center for Applied Economics, New York University.
  2. Jonathan Heathcote & Kjetil Storesletten & Giovanni L. Violante, 2009. "Quantitative Macroeconomics with Heterogeneous Households," Annual Review of Economics, Annual Reviews, vol. 1(1), pages 319-354, 05.
  3. Hanno Lustig, 2004. "The Market Price of Aggregate Risk and the Wealth Distribution," UCLA Economics Online Papers 299, UCLA Department of Economics.
  4. Felix Kubler & Karl Schmedders, 2003. "Stationary Equilibria in Asset-Pricing Models with Incomplete Markets and Collateral," Econometrica, Econometric Society, vol. 71(6), pages 1767-1793, November.
  5. Bewley, Truman, 1977. "The permanent income hypothesis: A theoretical formulation," Journal of Economic Theory, Elsevier, vol. 16(2), pages 252-292, December.
  6. Felix Kubler & Karl Schmedders, 2000. "Incomplete Markets, Transitory Shocks And Welfare," Computing in Economics and Finance 2000 130, Society for Computational Economics.
  7. Kehoe, Timothy J & Levine, David K, 1993. "Debt-Constrained Asset Markets," Review of Economic Studies, Wiley Blackwell, vol. 60(4), pages 865-88, October.
  8. YiLi Chien & Harold Cole & Hanno Lustig, 2007. "A Multiplier Approach to Understanding the Macro Implications of Household Finance," NBER Working Papers 13555, National Bureau of Economic Research, Inc.
  9. repec:fth:starer:98-25 is not listed on IDEAS
  10. Dana, Rose Anne, 1993. "Existence and Uniqueness of Equilibria When Preferences Are Additively Separable," Econometrica, Econometric Society, vol. 61(4), pages 953-57, July.
  11. Dan Cao, 2011. "Collateral Shortages, Asset Price and Investment Volatility with Heterogeneous Beliefs," Working Papers gueconwpa~11-11-01, Georgetown University, Department of Economics.
  12. 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.
  13. Fernando Alvarez & Urban J. Jermann, 2000. "Efficiency, Equilibrium, and Asset Pricing with Risk of Default," Econometrica, Econometric Society, vol. 68(4), pages 775-798, July.
  14. repec:fth:starer:9825 is not listed on IDEAS
  15. Timothy J. Kehoe & David K. Levine, 2000. "Liquidity Constrained vs. Debt Constrained Markets," Levine's Working Paper Archive 14, David K. Levine.
  16. Kubler, Felix & Schmedders, Karl, 2002. "Recursive Equilibria In Economies With Incomplete Markets," Macroeconomic Dynamics, Cambridge University Press, vol. 6(02), pages 284-306, April.
  17. Kilenthong, Weerachart & Townsend, Robert, 2007. "Market Based, Segregated Exchanges with Default Risk," MPRA Paper 20724, University Library of Munich, Germany, revised 12 Nov 2009.
  18. Lucas, Robert E, Jr, 1978. "Asset Prices in an Exchange Economy," Econometrica, Econometric Society, vol. 46(6), pages 1429-45, November.
  19. Domenico Cuoco & Hua He, 2001. "Dynamic Aggregation and Computation of Equilibria in Finite-Dimensional Economies with Incomplete Financial Markets," Annals of Economics and Finance, Society for AEF, vol. 2(2), pages 265-296, November.
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