Efficient Risk Sharing with Limited Commitment and Storage

Árpád Ábrahám, Sarolta Laczó

Research output: Contribution to journalArticle (Academic Journal)peer-review

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Abstract

We extend the model of risk sharing with limited commitment (Kocherlakota, 1996) byintroducing both a public and a private (unobservable and/or non-contractible) storagetechnology. Positive public storage relaxes future participation constraints, hence it canimprove risk sharing, contrary to the case where hidden income or effort is the deepfriction. The characteristics of constrained-efficient allocations crucially depend on thestorage technology’s return. At the steady state, if the return on storage is (i) mod-erately high, both assets and the consumption distribution may remain time-varying;(ii) sufficiently high, assets converge almost surely to a constant and the consumptiondistribution is time-invariant; (iii) equal to agents’ discount rate, perfect risk sharing isself-enforcing. Agents never have an incentive to use their private storage technology,i.e., Euler inequalities are always satisfied, at the constrained-efficient allocation of ourmodel, while this is not the case without optimal public asset accumulation. Finally, wefind that, in contrast with the limited-commitment model without storage, past incomeaffects consumption growth negatively both in our model with storage and in data from Indian villages.
Original languageEnglish
Article numberrdx061
Pages (from-to)1389-1424
Number of pages36
JournalReview of Economic Studies
Volume85
Issue number3
DOIs
Publication statusPublished - 31 Oct 2017

Structured keywords

  • ECON Macroeconomics

Keywords

  • risk sharing
  • limited commitment
  • hidden storage
  • dynamic contracts

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