Abstract
We study the effects of uncertainty on the allocation of resources in the standard, static, general equilibrium, two-sector, two-factor model. The elasticity of substitution in production vs that in consumption plays a key role in determining whether uncertainty attracts or repels resources. Risk aversion matters, but to a smaller extent, while factor endowments and factor intensities play a more limited role.
Highlights
Research on the effects of uncertainty on the allocation of resources goes back a long way
As Rothemberg and Smith remarked “... using a very general framework, they have examined the conditions under which a competitive equilibrium with futures markets will in some sense be optimal
The second group consisted of “...partial equilibrium models that concentrate on the individual firm or individual consumer, who is assumed to optimize facing given prices... ” The Markovitz-type portfolio analysis, as well as the theory of the firm under uncertainty, are examples of this approach
Summary
Research on the effects of uncertainty on the allocation of resources goes back a long way. Writing in 1971, Rothemberg and Smith, classified the existing research into two groups. One included the general equilibrium models under complete Arrow-Debreu markets and concentrated almost exclusively on questions of welfare. Using a very general framework, they (these authors) have examined the conditions under which a competitive equilibrium with futures markets will in some sense be optimal. They have not examined the comparative statics question concerning how changes in the amount of uncertainty affect the equilibrium prices and quantities traded.” The second group consisted of “...partial equilibrium models that concentrate on the individual firm or individual consumer, who is assumed to optimize facing given prices... The second group consisted of “...partial equilibrium models that concentrate on the individual firm or individual consumer, who is assumed to optimize facing given prices... ” The Markovitz-type portfolio analysis, as well as the theory of the firm under uncertainty (for instance, Oi, 1961), are examples of this approach
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