infonet-economy

It is standard in economics to assume that assets are normal goods and demand is downward sloping in price. This view has its theoretical foundation in the classic single period model of Arrow with one risky asset and one risk free asset, where both are assumed to be held long. However when short selling is allowed, we show that the risk free asset can not only fail to be a normal good but can in fact be a Gi¤en good even for widely popular members of the hyperbolic absolute risk aversion (HARA) class of utility functions. Distinct regions in the price-income space are identi?ed in which the risk free asset exhibits normal, inferior and Gi¤en behavior. Moreover for uility functions with decreasing relative risk aversion, such as the weighted average constant relative risk aversion (WACRRA) class introduced in this paper, the risk free asset can become a Gi¤en good only when it is held long. Examples are provided in which Gi¤en behavior occurs over multiple ranges of income. The analysis is also extended to a two period setting.