Preprint C188/2015
On the Role of Ambiguity in General Equilibrium: Finite and Infinite Horizon Economies
Juan Pablo Gama Torres
Keywords: General Equilibrium | ambiguity | Ambiguity Loving | Aggre- gate Risk | Wariness | Money | Efficient Bubbles | Crashing

Although implementation of different type of attitudes towards uncertainty in General Equilibrium seems to be completely natural, has not be completely studied. In this work, we presents two form: with ambiguity/risk loving and ambiguity as lack of impatience (Wariness).

We show that the aggregate risk of wealth plays a role in the existence of equilibrium in Arrow-Debreu economies. Moreover, we study properties of the equilibrium allocations such as condition for risk sharing and the price behavior in equilibrium in presence of regulation, and, the decomposition in the risk factor and the ambiguity factor in these prices in some special cases. Our analyses suggest that regulation increases volatility while reduces the social welfare of the economy, however the risk lovers or optimists are those who perceive the larger losses.

We show that, contrary to what happens under purely discounted utility, efficient allocations to wary agents are implemented with a non-vanishing money supply. In fact, the hedging rule of money does not disappear over time and, therefore, the transversality condition allows for consumers to be creditors at infinity. The implementation scheme starts by allocating money and then, at subsequent dates, taxes money balances that deviate from the efficient path. We address also why fiat money does not lose its value when Lucas trees are available and why we might not want to replace money by a tree. And finally, we expose conditions for the existence of stochastic efficient bubbles, which suggest the possibility of crashing under some conditions.