Incentive Compatible Price Adjustments in Large Markets

Abstract

Abstract: Disequilibrium trade can occur in a market lacking both recontracting options and a computational system that maps utilities into prices. This paper studies disequilibrium trade in a large market for an indivisible good. We focus on two issues: the speed of adjustment when arbitrage among periods is feasible, and the surplus loss depending on the kind of rationing. We find that incentive compatible sequential trade through a disequilibrium path is only compatible with sluggish price adjustments and sufficiently impatient agents. Thus, price adjustment does not depend on excess demand alone. The upper bound on the speed of price adjustment involves a lower bound for the social surplus loss, whatever the kind of rationing. The reason is that even when market price converges to the surplus maximizing value, as it happens when rationing is efficient, some pieces of surplus are not attainable at the current period due to arbitrage. However, faster price adjustments do not imply less surplus loss, because of the effect of price changes on transactions via arbitrage. Under weaker-than-efficient rationing