Publication: Risk-sharing with a central authority: Free-riding, lack of commitment, and bail-outs
Loading...
Identifiers
Publication date
2023-05-23
Defense date
Advisors
Tutors
Journal Title
Journal ISSN
Volume Title
Publisher
Impact
Export
Abstract
Agents with independent risks (regions) often create unions and delegate redistributive power to a central institution (center) that provides risk-sharing through costly transfers. However, there is the risk that regions free-ride on each other; this risk may be exacerbated when the center cannot commit to future policies. We study a differential game of two regions that make savings decisions and a benevolent center that sets transfers but lacks commitment. One region always ends up bankrupt and the center provides a bailout: as the poor regions enters bankruptcy, there is an upward jump in transfers to the poor region that coincides with a downward jump in the poor region's consumption. Delegation to a center is Pareto-improving provided that the center's welfare weights reflect initial wealth differences between regions. However, once asymmetries in regions' wealth and the center's welfare weights become large, dynamics become unstable, thus hastening impoverishment and bail-outs.