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Discrete Choice, Complete Markets, and Equilibrium

Author

Listed:
  • Simon Mongey
  • Michael E. Waugh

Abstract

This paper characterizes the allocations that emerge in general equilibrium economies populated by households with preferences of the additive random utility type that make discrete consumption, employment or spatial decisions. We start with a complete markets economy where households can trade claims contingent upon the realizations of their preference shocks. We (i) establish a first and second welfare theorem, (ii) illustrate that in the absence of ex-ante trade, discrete choice economies are generically inefficient, (iii) show that complete markets are not necessary and a much smaller set of securities decentralizes the efficient allocation. We illustrate the relevance of these results in several canonical settings and for measuring how welfare changes in response to changes in prices.

Suggested Citation

  • Simon Mongey & Michael E. Waugh, 2024. "Discrete Choice, Complete Markets, and Equilibrium," Staff Report 656, Federal Reserve Bank of Minneapolis.
    • Handle: RePEc:fip:fedmsr:97772
    DOI: 10.21034/sr.656
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    References listed on IDEAS

    as
    1. Kirill Borusyak & Xavier Jaravel, 2018. "The Distributional Effects of Trade: Theory and Evidence from the United States," 2018 Meeting Papers 284, Society for Economic Dynamics.
    2. Emi Nakamura & Dawit Zerom, 2010. "Accounting for Incomplete Pass-Through," The Review of Economic Studies, Review of Economic Studies Ltd, vol. 77(3), pages 1192-1230.
    3. Train,Kenneth E., 2009. "Discrete Choice Methods with Simulation," Cambridge Books, Cambridge University Press, number 9780521766555, September.
    4. Matias Busso & Jesse Gregory & Patrick Kline, 2013. "Assessing the Incidence and Efficiency of a Prominent Place Based Policy," American Economic Review, American Economic Association, vol. 103(2), pages 897-947, April.
    5. Felipe N. Del Canto & John R. Grigsby & Eric Qian & Conor Walsh, 2023. "Are Inflationary Shocks Regressive? A Feasible Set Approach," NBER Working Papers 31124, National Bureau of Economic Research, Inc.
    6. Berry, Steven & Levinsohn, James & Pakes, Ariel, 1995. "Automobile Prices in Market Equilibrium," Econometrica, Econometric Society, vol. 63(4), pages 841-890, July.
    Full references (including those not matched with items on IDEAS)

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    More about this item

    Keywords

    Welfare; Discrete choice; Complete markets;
    All these keywords.

    JEL classification:

    • R13 - Urban, Rural, Regional, Real Estate, and Transportation Economics - - General Regional Economics - - - General Equilibrium and Welfare Economic Analysis of Regional Economies
    • F10 - International Economics - - Trade - - - General
    • E20 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - General (includes Measurement and Data)
    • D52 - Microeconomics - - General Equilibrium and Disequilibrium - - - Incomplete Markets

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