Cost of Business Cycles with Indivisibilities and Liquidity Constraints

Abstract

It is almost universally agreed that individuals face incomplete insurance markets and cannot perfectly insure against the idiosyncratic risk. In this paper simple general equilibrium models with incomplete insurance markets are examined in order to assess the impact of imperfect insurance on the magnitude of the welfare costs of business cycles. Two versions of incomplete insurance markets are considered, and certain statistical properties of the equilibrium stochastic processes in these environments are compared with those of a perfect insurance economy.