Financial Innovations and Arbitrage Pricing in Economies with Frictions: Revisited

Existing literature points to the role of market frictions in providing motivations for financial innovations. In this paper, we study the effectiveness of the arbitrage pricing approach and the design and pricing of innovated securities in economies with restrictions on short sales. In the process, we also define the no-arbitrage conditions that is appropriate for such economies. The differences between our results and Chen's [3] are pointed out when appropriate.Journal of Economic LiteratureClassification Numbers: C61, G10, G12, G20.