On the microeconomic foundations of markets with frictions

The process that determines how agents meet is a key building block of any equilibrium model of search. The literature typically introduces meeting frictions in one of two ways. One of them is assuming an environment in which searchers are uninformed about the location of potential trading partners and can only attempt to contact them by engaging in random search. The other proceeds by directly assuming the existence of an aggregate object, the matching function , that expresses the number of contacts that occur at any moment in time as a function of the numbers of searchers on each side of the market. The information imperfections and other features of the environment that must underlie such a function are not made explicit; rather, it is assumed that their interaction gives rise to a well-behaved function. A large body of applied and theoretical work in modern macroeconomics relies either on the random search assumption or on the existence and policy invariance of an aggregate matching function. The purpose of this dissertation is to assess the theoretical validity of these assumptions by investigating conditions on the primitives of the environment under which they can be rationalized as equilibrium outcomes. With respect to the random search assumption a natural question to ask is whether an environment in which agents are completely uninformed and hence forced to engage in random search may arise as an equilibrium outcome in more general environments for which the information structure is endogenous in the sense that agents are allowed to inform their potential trading partners as to their locations. Matching functions are often derived for environments with information imperfections and agents who search randomly. However, since adopting a matching function amounts to assuming an exogenous aggregate meeting process, it is unclear what kinds of individual search behavior are consistent with the aggregate structure adopted. In particular, could the predictions of a model that uses a matching function be a reasonable characterization of the outcome resulting from the interaction of informed agents who are able to direct their search? This question is relevant since in most situations, people tend to have at least some information that allows them to direct their search in ways that may not be consistent with the random search assumption