We thank Tim Kehoe, Michael Magill, Iván Werning, and Martine Quinzii, as well as the editor and three anonymous referees, for very helpful comments. Krusell thanks the National Science Foundation. Ríos-Rull thanks the National Science Foundation and the University of Pennsylvania Research Foundation for support. The views expressed herein are those of the authors and not necessarily those of the Federal Reserve Bank of Minneapolis or the Federal Reserve System.
Constrained Efficiency in the Neoclassical Growth Model With Uninsurable Idiosyncratic Shocks
Article first published online: 26 NOV 2012
© 2012 The Econometric Society
Volume 80, Issue 6, pages 2431–2467, November 2012
How to Cite
Dávila, J., Hong, J. H., Krusell, P. and Ríos-Rull, J.-V. (2012), Constrained Efficiency in the Neoclassical Growth Model With Uninsurable Idiosyncratic Shocks. Econometrica, 80: 2431–2467. doi: 10.3982/ECTA5989
- Issue published online: 26 NOV 2012
- Article first published online: 26 NOV 2012
- Manuscript received July, 2005; final revision received April, 2012.
- Constrained efficiency;
- uninsurable shocks
We investigate the welfare properties of the one-sector neoclassical growth model with uninsurable idiosyncratic shocks. We focus on the notion of constrained efficiency used in the general equilibrium literature. Our characterization of constrained efficiency uses the first-order condition of a constrained planner's problem. This condition highlights the margins of relevance for whether capital is too high or too low: the factor composition of income of the (consumption-)poor. Using three calibrations commonly considered in the literature, we illustrate that there can be either over- or underaccumulation of capital in steady state and that the constrained optimum may or may not be consistent with a nondegenerate long-run distribution of wealth. For the calibration that roughly matches the income and wealth distribution, the constrained inefficiency of the market outcome is rather striking: it has much too low a steady-state capital stock.