IDEAS home Printed from https://ideas.repec.org/p/cwl/cwldpp/879r.html
   My bibliography  Save this paper

Default and Efficiency in a General Equilibrium Model with Incomplete Markets

Author

Abstract

We extend the standard model of general equilibrium with incomplete markets (GEI) to allow for default. Default can be either strategic, or due to ill-fortune. Agents who default are penalized to a degree proportional to the size of their default and to penalty parameters lambda. We find that under conditions similar to those necessary to guarantee the existence of GEI equilibrium, we get the existence of GEI_{lambda} equilibrium, for any lambda > 0. We argue that default is thus reasonably modeled as an equilibrium phenomenon. Moreover, we show that more lenient lambda which encourage default may be Pareto improving because they allow for better risk spreading. When default occurs, the Modigliani-Miller theorem typically fails to hold in our framework.

Suggested Citation

  • Pradeep Dubey & John Geanakoplos & Martin Shubik, 1988. "Default and Efficiency in a General Equilibrium Model with Incomplete Markets," Cowles Foundation Discussion Papers 879R, Cowles Foundation for Research in Economics, Yale University, revised Feb 1989.
  • Handle: RePEc:cwl:cwldpp:879r
    as

    Download full text from publisher

    File URL: https://cowles.yale.edu/sites/default/files/files/pub/d08/d0879-r.pdf
    Download Restriction: no
    ---><---

    References listed on IDEAS

    as
    1. Pradeep Dubey & John Geanakoplos & Martin Shubik, 1982. "Revelation of Information in Strategic Market Games: A Critique of Rational Expectations," Cowles Foundation Discussion Papers 634R, Cowles Foundation for Research in Economics, Yale University, revised Nov 1985.
    2. Baron, David P, 1976. "Default Risk and the Modigliani-Miller Theorem: A Synthesis," American Economic Review, American Economic Association, vol. 66(1), pages 204-212, March.
    3. John Geanakoplos & Pradeep Dubey, 1989. "Liquidity and Bankruptcy with Incomplete Markets: Pure Exchange," Cowles Foundation Discussion Papers 900, Cowles Foundation for Research in Economics, Yale University.
    4. Dubey, Pradeep & Shubik, Martin, 1979. "Bankruptcy and optimality in a closed trading mass economy modelled as a non-cooperative game," Journal of Mathematical Economics, Elsevier, vol. 6(2), pages 115-134, July.
    5. Dubey, Pradeep & Geanakoplos, John & Shubik, Martin, 1987. "The revelation of information in strategic market games : A critique of rational expectations equilibrium," Journal of Mathematical Economics, Elsevier, vol. 16(2), pages 105-137, April.
    Full references (including those not matched with items on IDEAS)

    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. Jamsheed Shorish, 2010. "Functional rational expectations equilibria in market games," Economic Theory, Springer;Society for the Advancement of Economic Theory (SAET), vol. 43(3), pages 351-376, June.
    2. James Peck & Matthew O. Jackson, 1999. "Asymmetric information in a competitive market game: Reexamining the implications of rational expectations," Economic Theory, Springer;Society for the Advancement of Economic Theory (SAET), vol. 13(3), pages 603-628.
    3. Aloisio Araujo, 2002. "As Leis de Falência: uma Abordagem Econômica," Working Papers Series 57, Central Bank of Brazil, Research Department.
    4. Richard McLean & James Peck & Andrew Postlewaite, 2005. "On Price-Taking Behavior in Asymmetric Information Economies," Studies in Economic Theory, in: Alessandro Citanna & John Donaldson & Herakles Polemarchakis & Paolo Siconolfi & Stephan E. Spear (ed.), Essays in Dynamic General Equilibrium Theory, pages 129-142, Springer.
    5. M. Shubik & D. Tsomocos, 1992. "A strategic market game with a mutual bank with fractional reserves and redemption in gold," Journal of Economics, Springer, vol. 55(2), pages 123-150, June.
    6. Shubik, Martin, 1990. "A game theoretic approach to the theory of money and financial institutions," Handbook of Monetary Economics, in: B. M. Friedman & F. H. Hahn (ed.), Handbook of Monetary Economics, edition 1, volume 1, chapter 5, pages 171-219, Elsevier.
    7. Matthew O. Jackson & James Peck, 1993. "Costly Information Acquisition," Discussion Papers 1087, Northwestern University, Center for Mathematical Studies in Economics and Management Science.
    8. Estelle Cantillon & Aurélie Slechten, 2018. "Information Aggregation in Emissions Markets with Abatement," Annals of Economics and Statistics, GENES, issue 132, pages 53-79.
    9. Meirowitz, Adam, 2005. "Deliberative Democracy or Market Democracy: Designing Institutions to Aggregate Preferences and Information," Papers 03-28-2005, Princeton University, Research Program in Political Economy.
    10. Martin Shubik & D.P. Tsomocos, 1990. "A Strategic Market Game with a Mutual Bank with Fractional Reserves and Redemption in Gold (A Continuum of Traders)," Cowles Foundation Discussion Papers 964, Cowles Foundation for Research in Economics, Yale University.
    11. Shubik, Martin, 1981. "Society, land, love or money : A strategic model of how to glue the generations together," Journal of Economic Behavior & Organization, Elsevier, vol. 2(4), pages 359-385, December.
    12. Lawrence Choo & Todd R. Kaplan & Ro’i Zultan, 2019. "Information aggregation in Arrow–Debreu markets: an experiment," Experimental Economics, Springer;Economic Science Association, vol. 22(3), pages 625-652, September.
    13. Araujo, Aloisio & Fajardo, Jose & Pascoa, Mario R., 2005. "Endogenous collateral," Journal of Mathematical Economics, Elsevier, vol. 41(4-5), pages 439-462, August.
    14. Michael Ostrovsky, 2012. "Information Aggregation in Dynamic Markets With Strategic Traders," Econometrica, Econometric Society, vol. 80(6), pages 2595-2647, November.
    15. Galanis, S. & Ioannou, C. & Kotronis, S., 2019. "Information Aggregation Under Ambiguity: Theory and Experimental Evidence," Working Papers 20/05, Department of Economics, City University London.
    16. J. Doyne Farmer, 2002. "Market force, ecology and evolution," Industrial and Corporate Change, Oxford University Press and the Associazione ICC, vol. 11(5), pages 895-953, November.
    17. Yusuke Kamishiro & Roberto Serrano, 2009. "Equilibrium blocking in large quasilinear economies," Working Papers 2009-12, Instituto Madrileño de Estudios Avanzados (IMDEA) Ciencias Sociales.
    18. Pradeep Dubey & Martin Shubik, 1978. "On 'On the Foundations of the Theory of Monopolistic Competition'," Cowles Foundation Discussion Papers 484, Cowles Foundation for Research in Economics, Yale University.
    19. Orrillo, Jaime, 2001. "Default and exogenous collateral in incomplete markets with a continuum of states," Journal of Mathematical Economics, Elsevier, vol. 35(1), pages 151-165, February.
    20. Galanis Spyros & Kotronis Stelios, 2021. "Updating Awareness and Information Aggregation," The B.E. Journal of Theoretical Economics, De Gruyter, vol. 21(2), pages 613-635, June.

    More about this item

    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:cwl:cwldpp:879r. 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: Brittany Ladd (email available below). General contact details of provider: https://edirc.repec.org/data/cowleus.html .

    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.