Financial intermediation and the welfare theorems in incomplete markets

Marc Oliver Bettzüge (), Thorsten Hens () and Michael Zierhut ()
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Marc Oliver Bettzüge: University of Cologne
Thorsten Hens: University of Zurich
Michael Zierhut: Humboldt University

Economic Theory, 2022, vol. 73, issue 2, No 6, 457-486

Abstract: Abstract In production economies with incomplete markets, shareholders disagree about the objective of the firm. We show that a weak financial intermediary, who is unable to complete markets, can offer just enough spanning to resolve this disagreement. The intermediary is limited to offering one customized contract per consumer. Knowledge of demand functions is sufficient for offering the right contracts. Once agreement among shareholders is reached, productive efficiency is restored, which in turn permits a Pareto efficient market outcome. This result shows that the first welfare theorem does not depend on complete spanning, but merely on institutions that provide the right span. However, this cannot be said about the second welfare theorem: For some wealth distributions, equilibria with transfers fail to exist due to nonconvexities caused by market incompleteness.

Keywords: Incomplete markets with production; Shareholder unanimity; Financial intermediary; Firm objectives; Second welfare theorem (search for similar items in EconPapers)
JEL-codes: D43 D50 D61 (search for similar items in EconPapers)
Date: 2022
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Citations: View citations in EconPapers (1)

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DOI: 10.1007/s00199-020-01294-w

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