IDEAS home Printed from https://ideas.repec.org/a/eee/dyncon/v30y2006i11p2143-2165.html
   My bibliography  Save this article

Endogenous market incompleteness with investment risks

Author

Listed:
  • Meh, Cesaire A.
  • Quadrini, Vincenzo

Abstract

This Paper studies a general equilibrium economy in which agents have the ability to invest in a risky technology. The investment risk cannot be fully insured with optimal contracts because shocks are private information. We show that the presence of investment risks leads to under-accumulation of capital relative to an economy where idiosyncratic shocks can be fully insured. We also show that the availability of state-contingent (optimal) contracts ? compared to simple debt contracts ? brings the aggregate stock of capital close to the complete markets level. Institutional reforms that make possible the use of these contracts have important welfare consequences.
(This abstract was borrowed from another version of this item.)

Suggested Citation

  • Meh, Cesaire A. & Quadrini, Vincenzo, 2006. "Endogenous market incompleteness with investment risks," Journal of Economic Dynamics and Control, Elsevier, vol. 30(11), pages 2143-2165, November.
    • Handle: RePEc:eee:dyncon:v:30:y:2006:i:11:p:2143-2165
    as

    Download full text from publisher

    File URL: http://www.sciencedirect.com/science/article/pii/S0165-1889(05)00143-0
    Download Restriction: Full text for ScienceDirect subscribers only
    ---><---

    As the access to this document is restricted, you may want to look for a different version below or search for a different version of it.

    Other versions of this item:

    References listed on IDEAS

    as
    1. Fudenberg, Drew & Holmstrom, Bengt & Milgrom, Paul, 1990. "Short-term contracts and long-term agency relationships," Journal of Economic Theory, Elsevier, vol. 51(1), pages 1-31, June.
    2. Mikkelson, Wayne H. & Partch, M. Megan & Shah, Kshitij, 1997. "Ownership and operating performance of companies that go public," Journal of Financial Economics, Elsevier, vol. 44(3), pages 281-307, June.
    3. Vincenzo Quadrini, 2000. "Entrepreneurship, Saving and Social Mobility," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 3(1), pages 1-40, January.
    4. Hansen, Gary D & Imrohoroglu, Ayse, 1992. "The Role of Unemployment Insurance in an Economy with Liquidity Constraints and Moral Hazard," Journal of Political Economy, University of Chicago Press, vol. 100(1), pages 118-142, February.
    5. Ross Levine, 1997. "Financial Development and Economic Growth: Views and Agenda," Journal of Economic Literature, American Economic Association, vol. 35(2), pages 688-726, June.
    6. Veronika Dolar & Césaire Meh, 2002. "Financial Structure and Economic Growth: A Non-Technical Survey," Staff Working Papers 02-24, Bank of Canada.
    7. Khan, Aubhik & Ravikumar, B., 2001. "Growth and risk-sharing with private information," Journal of Monetary Economics, Elsevier, vol. 47(3), pages 499-521, June.
    8. Josep Pijoan-Mas, 2006. "Precautionary Savings or Working Longer Hours?," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 9(2), pages 326-352, April.
    9. Marcet, Albert & Marimon, Ramon, 1992. "Communication, commitment, and growth," Journal of Economic Theory, Elsevier, vol. 58(2), pages 219-249, December.
    10. Erik Hurst & Annamaria Lusardi, 2004. "Liquidity Constraints, Household Wealth, and Entrepreneurship," Journal of Political Economy, University of Chicago Press, vol. 112(2), pages 319-347, April.
    11. Cesaire Meh, 2005. "Entrepreneurship, Wealth Inequality, and Taxation," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 8(3), pages 688-719, July.
    12. S. Rao Aiyagari, 1994. "Uninsured Idiosyncratic Risk and Aggregate Saving," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 109(3), pages 659-684.
    13. Aiyagari, S Rao, 1995. "Optimal Capital Income Taxation with Incomplete Markets, Borrowing Constraints, and Constant Discounting," Journal of Political Economy, University of Chicago Press, vol. 103(6), pages 1158-1175, December.
    14. Mikhail Golosov & Narayana Kocherlakota & Aleh Tsyvinski, 2003. "Optimal Indirect and Capital Taxation," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 70(3), pages 569-587.
    15. Francisco Covas, 2004. "Risk-Taking Executives, The Value of the Firm and Economic Performance," 2004 Meeting Papers 80, Society for Economic Dynamics.
    16. Huggett, Mark, 1996. "Wealth distribution in life-cycle economies," Journal of Monetary Economics, Elsevier, vol. 38(3), pages 469-494, December.
    17. William M. Gentry & R. Glenn Hubbard, 2000. "Entrepreneurship and Household Saving," NBER Working Papers 7894, National Bureau of Economic Research, Inc.
    18. Mark Casson (ed.), 1990. "Entrepreneurship," Books, Edward Elgar Publishing, number 537.
    19. Chatterjee, Satyajit, 1994. "Transitional dynamics and the distribution of wealth in a neoclassical growth model," Journal of Public Economics, Elsevier, vol. 54(1), pages 97-119, May.
    20. Vincenzo Quadrini, 1999. "The Importance Of Entrepreneurship For Wealth Concentration And Mobility," Review of Income and Wealth, International Association for Research in Income and Wealth, vol. 45(1), pages 1-19, March.
    21. Rios-Rull, Jose-Victor, 1994. "On the quantitative importance of market completeness," Journal of Monetary Economics, Elsevier, vol. 34(3), pages 463-496, December.
    Full references (including those not matched with items on IDEAS)

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as


    Cited by:

    1. Angeletos, George-Marios & Panousi, Vasia, 2011. "Financial integration, entrepreneurial risk and global dynamics," Journal of Economic Theory, Elsevier, vol. 146(3), pages 863-896, May.
    2. Covas, Francisco, 2006. "Uninsured idiosyncratic production risk with borrowing constraints," Journal of Economic Dynamics and Control, Elsevier, vol. 30(11), pages 2167-2190, November.
    3. Maik Heinemann & Alexander Wulff, 2015. "Idiosyncratic Risk, Borrowing Constraints and Financial Integration - A Discussion of Ambiguous Results," Working Papers 2015019, Berlin Doctoral Program in Economics and Management Science (BDPEMS).
    4. Francisco Covas & Shigeru Fujita, 2007. "Private risk premium and aggregate uncertainty in the model of uninsurable investment risk," Working Papers 07-30, Federal Reserve Bank of Philadelphia.
    5. Michelacci, Claudio & Schivardi, Fabiano, 2008. "Does Idiosyncratic Business Risk Matter?," CEPR Discussion Papers 6910, C.E.P.R. Discussion Papers.
    6. Kartashova, Katya, 2018. "Improving public equity markets? No pain, no gain," Economics Letters, Elsevier, vol. 162(C), pages 69-72.
    7. Karaivanov, Alexander K. & Martin, Fernando M., 2018. "Markov-perfect risk sharing, moral hazard and limited commitment," Journal of Economic Dynamics and Control, Elsevier, vol. 94(C), pages 1-23.
    8. Giacomo Candian & Mikhail Dmitriev, 2020. "Risk Aversion, Uninsurable Idiosyncratic Risk, and the Financial Accelerator," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 37, pages 299-322, July.
    9. Mele, Antonio, 2014. "Repeated moral hazard and recursive Lagrangeans," Journal of Economic Dynamics and Control, Elsevier, vol. 42(C), pages 69-85.
    10. Panousi, Vasia, 2009. "Financial Integration and Capital Accumulation," MPRA Paper 24238, University Library of Munich, Germany.
    11. Dunbar, Geoffrey, 2013. "Returns-to-scale and the equity premium puzzle," Journal of Economic Dynamics and Control, Elsevier, vol. 37(9), pages 1736-1754.
    12. Carlson Mark A & King Thomas & Lewis Kurt, 2011. "Distress in the Financial Sector and Economic Activity," The B.E. Journal of Economic Analysis & Policy, De Gruyter, vol. 11(1), pages 1-31, June.
    13. George-Marios Angeletos & Vasia Panousi, 2007. "Revisiting the Supply-Side Effects of Government Spending Under Incomplete Markets," NBER Working Papers 13136, National Bureau of Economic Research, Inc.
    14. Caggese, Andrea, 2012. "Entrepreneurial risk, investment, and innovation," Journal of Financial Economics, Elsevier, vol. 106(2), pages 287-307.
    15. Angeletos, George-Marios & Panousi, Vasia, 2009. "Revisiting the supply side effects of government spending," Journal of Monetary Economics, Elsevier, vol. 56(2), pages 137-153, March.
    16. Claudio Michelacci & Fabiano Schivardi, 2013. "Does Idiosyncratic Business Risk Matter For Growth?," Journal of the European Economic Association, European Economic Association, vol. 11(2), pages 343-368, April.
    17. Damiano Sandri, 2014. "Growth and Capital Flows with Risky Entrepreneurship," American Economic Journal: Macroeconomics, American Economic Association, vol. 6(3), pages 102-123, July.
    18. George-Marios Angeletos & Vasia Panousi, 2011. "Financial Integration, Entrepreneurial Risk and Global Imbalances," NBER Working Papers 16761, National Bureau of Economic Research, Inc.
    19. Wulff, Alexander & Heinemann, Maik, 2015. "Idiosyncratic Risk, Borrowing Constraints and Financial Integration - A Discussion of Ambiguous Results," VfS Annual Conference 2015 (Muenster): Economic Development - Theory and Policy 113165, Verein für Socialpolitik / German Economic Association.

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. Cesaire Meh (co-author Vincenzo Quadrini), 2004. "Uninsurable Investment Risk," Computing in Economics and Finance 2004 60, Society for Computational Economics.
    2. Césaire Meh & Yaz Terajima, 2009. "Uninsurable investment risks and capital income taxation," Annals of Finance, Springer, vol. 5(3), pages 521-541, June.
    3. Clemens, Christiane & Heinemann, Maik, 2010. "On entrepreneurial risk-taking and the macroeconomic effects of financial constraints," Journal of Economic Dynamics and Control, Elsevier, vol. 34(9), pages 1610-1626, September.
    4. Marco Cagetti & Mariacristina De Nardi, 2004. "Taxation, entrepreneurship, and wealth," Staff Report 340, Federal Reserve Bank of Minneapolis.
    5. Sagiri Kitao, 2005. "Income taxation with uninsurable endowment and entrepreneurial investment risks," 2005 Meeting Papers 514, Society for Economic Dynamics.
    6. Sagiri Kitao, 2008. "Entrepreneurship, taxation and capital investment," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 11(1), pages 44-69, January.
    7. Vincenzo Quadrini, 2009. "Entrepreneurship in macroeconomics," Annals of Finance, Springer, vol. 5(3), pages 295-311, June.
    8. Panousi, Vasia, 2009. "Capital Taxation with Entrepreneurial Risk," MPRA Paper 24237, University Library of Munich, Germany.
    9. Cagetti, Marco & De Nardi, Mariacristina, 2008. "Wealth Inequality: Data And Models," Macroeconomic Dynamics, Cambridge University Press, vol. 12(S2), pages 285-313, September.
    10. Quadrini, Vincenzo, 2004. "Investment and liquidation in renegotiation-proof contracts with moral hazard," Journal of Monetary Economics, Elsevier, vol. 51(4), pages 713-751, May.
    11. Marco Cagetti & Mariacristina De Nardi, 2009. "Estate Taxation, Entrepreneurship, and Wealth," American Economic Review, American Economic Association, vol. 99(1), pages 85-111, March.
    12. Meh, Césaire A., 2008. "Business risk, credit constraints, and corporate taxation," Journal of Economic Dynamics and Control, Elsevier, vol. 32(9), pages 2971-3008, September.
    13. Covas, Francisco, 2006. "Uninsured idiosyncratic production risk with borrowing constraints," Journal of Economic Dynamics and Control, Elsevier, vol. 30(11), pages 2167-2190, November.
    14. Anmol Bhandari & Ellen R. McGrattan, 2017. "Sweat Equity in U.S. Private Business," Staff Report 560, Federal Reserve Bank of Minneapolis.
    15. Saez, Emmanuel & Stantcheva, Stefanie, 2018. "A simpler theory of optimal capital taxation," Journal of Public Economics, Elsevier, vol. 162(C), pages 120-142.
    16. Benhabib, Jess & Bisin, Alberto & Zhu, Shenghao, 2015. "The wealth distribution in Bewley economies with capital income risk," Journal of Economic Theory, Elsevier, vol. 159(PA), pages 489-515.
    17. Maik Heinemann & Christiane Clemens, 2007. "Credit Constraints, Entrepreneurial Activity, and Occupational Choice under Risk," 2007 Meeting Papers 416, Society for Economic Dynamics.
    18. Storesletten, Kjetil & Telmer, Christopher I. & Yaron, Amir, 2004. "Consumption and risk sharing over the life cycle," Journal of Monetary Economics, Elsevier, vol. 51(3), pages 609-633, April.
    19. Polbin, Andrey & Shumilov, Andrei, 2020. "Предпринимательство, Накопление Богатства И Ограничения Заимствования: Обзор Зарубежных Исследований [Entrepreneurship, wealth accumulation and borrowing constraints: Foreign research experience]," MPRA Paper 103675, University Library of Munich, Germany.
    20. Jess Benhabib & Alberto Bisin & Shenghao Zhu, 2014. "The Wealth Distribution in Bewley Models with Investment Risk," NBER Working Papers 20157, National Bureau of Economic Research, Inc.

    More about this item

    JEL classification:

    • D58 - Microeconomics - - General Equilibrium and Disequilibrium - - - Computable and Other Applied General Equilibrium Models
    • D82 - Microeconomics - - Information, Knowledge, and Uncertainty - - - Asymmetric and Private Information; Mechanism Design
    • E20 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - General (includes Measurement and Data)

    Statistics

    Access and download statistics

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:eee:dyncon:v:30:y:2006:i:11:p:2143-2165. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: Catherine Liu (email available below). General contact details of provider: http://www.elsevier.com/locate/jedc .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.