Debt Constrained Asset Markets

Timothy J. Kehoe, David K. Levine

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300 Scopus citations

Abstract

We develop a theory of general equilibrium with endogenous debt limits in the form of individual rationality constraints similar to those in the dynamic consistency literature. If an agent defaults on a contract, he can be excluded from future contingent claims markets trading and can have his assets seized. He cannot be excluded from spot markets trading, however, and he has some private endowments that cannot be seized. t\1l information is publicly held and common knowledge, and there is a complete set of contingent claims markets. Since there is complete information, an agent cannot enter into a contract in which he would have an incentive to default in some state. In general there is only partial insurance: variations in consumption may be imperfectly correlated across agents; interest rates may be lower than they would be without constraints; and equilibria may be Pareto ranked. © 1993 The Review of Economic Studies Limited.

Original languageEnglish
Pages (from-to)865-888
Number of pages24
JournalReview of Economic Studies
Volume60
Issue number4
DOIs
StatePublished - 1993

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