Market allocation under uncertainty

This paper discusses the interpretation and implications of the analysis of efficient resource allocation under uncertainty initiated by Arrow in “The Role of Securities in the Optimal Allocation of Risk-Bearing.” Arrow's model and results are reviewed. It is shown that prices for contingent claims to a numeraire commodity have all the formal properties of a probability measure on the states, but still reflect the relative scarcities under alternative states as well as the probabilities of these states. Some implications of the analysis for asset prices, portfolio selection, and investment criteria are mentioned.