Recursive Equilibrium in Krusell and Smith (1998)

106 Pages Posted: 3 Nov 2016 Last revised: 11 Dec 2019

See all articles by Dan Cao

Dan Cao

Georgetown University - Department of Economics

Date Written: December 11, 2019


This paper uses the tools developed in the literature on dynamically incomplete markets with finite agents to study the large economy with a continuum of agents and both aggregate and idiosyncratic shocks in Krusell and Smith (1998). It establishes the existence of sequential competitive equilibrium, generalized recursive equilibrium, recursive equilibrium with an extended-state space, and characterizes several important properties of the equilibrium variables. The equilibrium process admits an ergodic measure, which enables the application of the ergodic theorem for simulating and calibrating the model. Without aggregate shocks, the existence and some characterization results carry over to economies with only idiosyncratic shocks such as Huggett (1997)'s economy. However, the existence of recursive equilibrium with the natural minimal state space in Krusell and Smith's economy remains elusive, as in finite-agent incomplete markets economies.

Keywords: Incomplete Markets; Large Economies; Aggregate and Idiosyncratic Shocks; Recursive Equilibrium; Kakutani-Glicksberg-Fan Fixed Point Theorem; Stationarity and Ergodicity

JEL Classification: C62, C63, C68, D52, D91, E13, E21, E32

Suggested Citation

Cao, Dan, Recursive Equilibrium in Krusell and Smith (1998) (December 11, 2019). Journal of Economic Theory, Forthcoming, Available at SSRN: or

Dan Cao (Contact Author)

Georgetown University - Department of Economics ( email )

Washington, DC 20057
United States

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