A two price theory of financial equilibrium with risk management implications

Dilip Madan ()

Annals of Finance, 2012, vol. 8, issue 4, 489-505

Abstract: Financial primitives are introduced to define acceptable loss exposures when demands and supplies are defined on differing event spaces. Acceptable loss exposures are modeled by a convex cone of random variables containing the nonnegative random variables. The resulting financial equilibrium defines in general a two price economy. Analytical procedures for identifying the two prices are described. The size of the two price economy is fundamentally determined by the financial system that determines the size of the cone of acceptable losses. There are implications for accounting and risk management as liabilities would typically be valued at ask while assets are valued at bid with no data available on bidirectional prices for anything. Marking to market in such financial economies is at best marking to two price economies. Copyright Springer-Verlag 2012

Keywords: Liability valuation; Capital reserves; Taxpayer put option; Risk weighted assets; D52; D53; G10; G12; G13 (search for similar items in EconPapers)
Date: 2012
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Citations: View citations in EconPapers (17)

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DOI: 10.1007/s10436-012-0200-7

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