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I have a Bellman equation for employed worker in a setting where job to job transition is allowed. I want to show that V(w), the value function, is strictly increasing in w. In standard Bellman equation I know of a theorem that says if U and constraint correspondence G are monotone then V is also monotone. But what is the contraint correspondence here? Below is the BE. I can see that w is strictly increasing. But I do not know how to explain the second requirement.

$V_1(𝑤)=𝑤+\beta(𝜆_1(∫max[{𝑉_1(𝑤),𝑉_1(𝑥̃)}]𝑑𝐹(𝑥̃))+𝛿[𝑉_0]]$

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Consider a contraction mapping on the space of (say) all bounded continuous functions. Let $A$ be the set bounded continuous and increasing functions: $V \in A$ if for all $w \le w', V(w) \le V(w')$ and let $B$ be the set of all bounded continuous and strictly increasing functions: $V \in B$ if for all $w < w', V(w) < V(w')$. Note that the set $A$ is closed: a convergent sequence of increasing bounded and continuous functions converges to an increasing bounded and continuous function (here convergence is in the sup metric). Also note that $B \subseteq A$. Note that $B$ is not closed.

The following holds:

Lemma If for all $V \in A$, $TV \in B$ then the fixed point of $T$ will be in $B$.

Proof: As $T$ is a contraction mapping, the fixed point can be found |by taking any bounded and continuous function $V$ and generating the sequence $T V, T^2 V, T^3 V, \ldots$ By the contraction mapping theorem, this sequence converges (in the sup metric) to the unique fixed point of $T$, i.e. the function $V^\ast$ whith $TV^\ast = V^\ast$.

Now, start at any $V \in A$, then $T V \in B \subseteq A$, $T^2 V \in B \subseteq A$ and so on. So every element in the sequence $V, TV, T^2 V, \ldots$ belongs to $A$ and as $A$ is closed the limit, say $V^\ast$ (which is the fixed point) will also be in $A$. But then $V^\ast = TV^\ast \in B$.

The Bellman operator is given by: $$ T V(w) = w + \beta\left(\lambda_1(\int \max[V(w), V(\tilde x)] d F(\tilde x)) + \delta[V_0]\right). $$ Assume you already have shown that $T$ is a contraction mapping on (for example) the set of continuous and bounded functions from $\mathbb{R}$ to $\mathbb{R}$).

Let $V$ be an increasing function $V$, i.e. $w \le w'$ implies $V(w) \le V(w')$. We need to show that $TV$ is strictly increasing: if $w < w'$, then $TV(w) < TV(w')$.

We have, $$ \begin{align*} TV(w) &= \underbrace{w}_{< w'} + \beta\left(\lambda_1 (\int\max[\underbrace{V(w)}_{\le V(w')}, V(\tilde x)] dF(\tilde x)) + \delta [V_0]\right),\\ &< w' + \beta\left(\lambda_1 (\int\max[V(w'), V(\tilde x)] dF(\tilde x)) + \delta [V_0]\right),\\ &= TV(w') \end{align*} $$

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  • $\begingroup$ "To show that the fixed point of 𝑇 is stictly increasing, it suffices to show that for all 𝑉∈𝐴 the function 𝑇𝑉 is strictly increasing" How does this work? I want to show that V is strictly increasing. So how do we start off by saying take an increasing function V? Sorry but I am missing something here. $\endgroup$ Commented Nov 7, 2024 at 15:33
  • $\begingroup$ I modified my response. Hope this helps. $\endgroup$ Commented Nov 7, 2024 at 16:24
  • $\begingroup$ Thank you! Yes this is really helpful $\endgroup$ Commented Nov 8, 2024 at 0:41

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