Paper #407

Títol:

A simple model of multiple equilibria based on risk

Autor:

James S. Costain

Data:

Març 1998 (Revisió: Juliol 1999)

Resum:

This paper shows how risk may aggravate fluctuations in economies with imperfect insurance and multiple assets. A two period job matching model is studied, in which risk averse agents act both as workers and as entrepreneurs. They choose between two types of investment: one type is riskless, while the other is a risky activity that creates jobs. Equilibrium is unique under full insurance. If investment is fully insured but unemployment risk is uninsured, then precautionary saving behavior dampens output fluctuations. However, if both investment and employment are uninsured, then an increase in unemployment gives agents an incentive to shift investment away from the risky asset, further increasing unemployment. This positive feedback may lead to multiple Pareto ranked equilibria. An overlapping generations version of the model may exhibit poverty traps or persistent multiplicity. Greater insurance is doubly beneficial in this context since it can both prevent multiplicity and promote risky investment.

Paraules clau:

Multiple equilibria, imperfect insurance, matching, prudence, temperance, precautionary saving, portfolio choice

Codis JEL:

E32, E21, G11

Àrea de Recerca:

Macroeconomia i Economia Internacional

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