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I am reading Chapter 20 (Insurance vs Incentive) in Sargent's Recursive Macroeconomics Theory.

I don't understand this part on his book (on page 809, 3rd version). Why we know that the optimal contract $c_s, w_s = g_1(.), l_1(.)$, not $g_2(.) l_2(.)$ for any state $s$? In particular, how can we make sure that the participation constraint is binding for all state?

If anyone has ever read this chapter and understand it. Plz kindly explain to me.

Thanks a lot!

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  • $\begingroup$ Hi, it is unclear what about the formula is unclear. What have you tried doing to solve your problem so far? What is your understanding of the recursive formulation for this model? $\endgroup$ – Kitsune Cavalry Jan 10 at 1:38

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