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Multiplicity in general financial equilibrium with portfolio constraints

Journal

Journal of Economic Theory

Subject

Finance

Authors / Editors

Basak S;Cass D;Licari J M;Pavlova A

Publication Year

2008

Abstract

This paper explores the role of portfolio constraints in generating multiplicity of equilibrium. We present a simple financial market economy with two goods and two households, households who face constraints on their ability to take unbounded positions in risky stocks. Absent such constraints, equilibrium allocation is unique and is Pareto efficient. With one portfolio constraint in place, the efficient equilibrium is still possible; however, additional inefficient equilibria in which the constraint is binding may emerge. We show further that with portfolio constraints cum incomplete markets, there may be a continuum of equilibria; adding incomplete markets may lead to real indeterminacy.

Keywords

Multiple equilibria; Asset pricing; Portfolio constraints; Indeterminacy; General financial equilibrium (GFE)

Publication Research Centre

Institute of Finance and Accounting

Available on ECCH

No


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