Analyzing Equilibrium in Incomplete Markets with Model Uncertainty
29 Pages Posted: 27 Jul 2015
Date Written: July 26, 2015
In this paper, we analyze equilibrium in incomplete markets of random endowments by adopting utility indifference pricing and utility-based pricing. Addressing model uncertainty, we also consider agents who adopt max/min expected utility and a risk management policy. Using this framework, we demonstrate the existence of equilibrium. Moreover, we clarify the differences in the features of equilibria derived using these methods. Further, we show that the traded amount of random endowments in equilibrium by indifference pricing depends on the level of risk aversion, initial capital, and agents’ risk limits.
Keywords: Utility indifference pricing, Utility-based pricing, Partial equilibrium, Model uncertainty, Maxmin expected utility
JEL Classification: G13, C62, D81
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