Asset prices, debt constraints and inefficiency

We consider (possibly non-stationary) economies with endogenous solvency constraints under uncertainty over an infinite horizon, as in Alvarez and Jermann (2000) 5]. A sort of Cass Criterion (Cass, 1972 10]) completely characterizes constrained inefficiency under the hypothesis of uniform gains from risk-sharing (which is always satisfied in stationary economies when the autarchy is constrained inefficient). Uniform gains from risk-sharing also guarantee a finite value of the intertemporal aggregate endowment at a constrained optimum. Hence, no equilibrium exhibits a null interest rate in the long run. Finally, constrained inefficiency occurs if and only if there exists a feasible redistribution producing a welfare improvement at all contingencies.