A General and Intuitive Envelope Theorem

Andrew Clausen, Carlo Strub

Research output: Working paperDiscussion paper

Abstract

Previous envelope theorems establish differentiability of value functions in
convex settings. Our envelope theorem applies to all functions whose derivatives appear in first-order conditions, and in non-convex settings. For example, in Stackelberg games, the leader’s first-order condition involves the derivative of the follower’s policy. Similarly, we differentiate (i) the borrower’s value function and default cut-off policy function in an unsecured credit economy, (ii) the firm’s value function in a capital adjustment problem with fixed costs, and (iii) the households’ value functions in insurance arrangements with indivisible goods. Our theorem accommodates optimization problems involving discrete choices, infinite horizon stochastic dynamic programming, and Inada conditions.
Original languageEnglish
PublisherEdinburgh School of Economics Discussion Paper Series
Number of pages38
Publication statusPublished - 8 Apr 2016

Publication series

NameESE Discussion Papers
No.274

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