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Competitive equilibria with limited enforcement


Abstract: We show how to decentralize constrained efficient allocations that arise from enforcement constraints between sovereign nations. In a pure exchange economy, these allocations can be decentralized with private agents acting competitively and taking as given government default decisions on foreign debt. In an economy with capital, these allocations can be decentralized if the government can tax capital income as well as default on foreign debt. The tax on capital income is needed to make private agents internalize a subtle externality. The decisions of the government can arise as an equilibrium of a dynamic game between governments.

Keywords: Competition; Econometric models; Equilibrium (Economics);

Status: Published in Journal of Economic Theory (Vol. 119, No. 1, November 2004, pp. 184-206)

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Provider: Federal Reserve Bank of Minneapolis

Part of Series: Staff Report

Publication Date: 2003

Number: 307