We study a simple static economy with collateralized loan contracts and an incomplete asset market. We study whether economic forces operate to keep asset price equal to fundamentals in this economy. We find that asset prices may be higher than the valuation of any agent in the economy, i.e.,...

In this paper, we examine an exchange economy with a financial market composed of three assets: a share of a stock, an European call option written on the stock, and a riskless bond. The financial market is assumed to be incomplete and the option is not a redundant asset. In such a case the...

We formalize the idea that the financial sector can be a source of non-fundamental risk. Households' desire to hedge against price volatility can generate price volatility in equilibrium, even absent fundamental risk. Fearing that asset prices may fall, risk-averse households demand safe assets...