Working Paper: CEPR ID: DP3271
Authors: Nabir I. Alnajjar; Luca Anderlini; Leonardo Felli
Abstract: We develop a model of unforeseen contingencies. These are contingencies that are understood by economic agents ? their consequences and probabilities are known ? but are such that every description of such events necessarily leaves out relevant features that have a non-negligible impact on the parties? expected utilities. Using a simple co-insurance problem as a backdrop, we introduce a model where states are described in terms of objective features, and the description of an event specifies a finite number of such features. In this setting, unforeseen contingencies are present in the co-insurance problem when the first-best risk-sharing contract varies with the states of nature in a complex way that makes it highly sensitive to the component features of the states. In this environment, although agents can compute expected pay-offs, they are unable to include in any ex-ante agreement a description of the relevant contingencies that captures (even approximately) the relevant complexity of the risky environment.
Keywords: fine variability; finite invariance; incomplete contracts; unforeseen contingencies
JEL Codes: C69; D81; D89
Edges that are evidenced by causal inference methods are in orange, and the rest are in light blue.
| Cause | Effect |
|---|---|
| complexity of the environment (D80) | completeness of contracts (D86) |
| unforeseen contingencies (H84) | choice of contract (K12) |
| inability to describe contingencies (D80) | completeness of contracts (D86) |
| expected payoffs (J33) | completeness of contracts (D86) |