Title: Inferring Labor Income Risk and Partial Insurance From Economic Choices
Abstract: EconometricaVolume 82, Issue 6 p. 2085-2129 Original Articles Inferring Labor Income Risk and Partial Insurance From Economic Choices Fatih Guvenen, Fatih Guvenen [email protected] Dept. of Economics, University of Minnesota, 4-101 Hanson Hall, 1925 South 4th Street, Mineapolis, MN, 55455 U.S.A. NBERSearch for more papers by this authorAnthony A. Smith, Anthony A. Smith [email protected] Dept. of Economics, Yale University, 28 Hillhouse Avenue, Room 306, New Haven, CT, 06520 U.S.A. NBER An earlier version of this paper was circulated under the title "Inferring Labor Income Risk From Economic Choices: An Indirect Inference Approach." For helpful critiques and suggestions, we thank discussants at various conferences: Victor Aguirregabiria, Richard Blundell, Stephane Bonhomme, Jonathan Parker, Luigi Pistaferri, Sam Schulhofer-Wohl, Kjetil Storesletten, and Harald Uhlig, as well as Daron Acemoglu, Orazio Attanasio, Martin Browning, Raj Chetty, Lars Hansen, Yuichi Kitamura, and Victor Ríos-Rull. Last but not least, we thank the co-editor and two anonymous referees for comments and suggestions that substantially improved the paper. Matthew Johnson, Marina Tavares, Georgios Stefanides, and Simone Civale provided excellent research assistance. Guvenen acknowledges financial support from the NSF under Grant SES-0649437. All remaining errors are our own. Search for more papers by this author Fatih Guvenen, Fatih Guvenen [email protected] Dept. of Economics, University of Minnesota, 4-101 Hanson Hall, 1925 South 4th Street, Mineapolis, MN, 55455 U.S.A. NBERSearch for more papers by this authorAnthony A. Smith, Anthony A. Smith [email protected] Dept. of Economics, Yale University, 28 Hillhouse Avenue, Room 306, New Haven, CT, 06520 U.S.A. NBER An earlier version of this paper was circulated under the title "Inferring Labor Income Risk From Economic Choices: An Indirect Inference Approach." For helpful critiques and suggestions, we thank discussants at various conferences: Victor Aguirregabiria, Richard Blundell, Stephane Bonhomme, Jonathan Parker, Luigi Pistaferri, Sam Schulhofer-Wohl, Kjetil Storesletten, and Harald Uhlig, as well as Daron Acemoglu, Orazio Attanasio, Martin Browning, Raj Chetty, Lars Hansen, Yuichi Kitamura, and Victor Ríos-Rull. Last but not least, we thank the co-editor and two anonymous referees for comments and suggestions that substantially improved the paper. Matthew Johnson, Marina Tavares, Georgios Stefanides, and Simone Civale provided excellent research assistance. Guvenen acknowledges financial support from the NSF under Grant SES-0649437. All remaining errors are our own. Search for more papers by this author First published: 23 December 2014 https://doi.org/10.3982/ECTA9446Citations: 74 AboutPDF ToolsRequest permissionExport citationAdd to favoritesTrack citation ShareShare Give accessShare full text accessShare full-text accessPlease review our Terms and Conditions of Use and check box below to share full-text version of article.I have read and accept the Wiley Online Library Terms and Conditions of UseShareable LinkUse the link below to share a full-text version of this article with your friends and colleagues. Learn more.Copy URL Share a linkShare onFacebookTwitterLinkedInRedditWechat Abstract This paper uses the information contained in the joint dynamics of individuals' labor earnings and consumption-choice decisions to quantify both the amount of income risk that individuals face and the extent to which they have access to informal insurance against this risk. We accomplish this task by using indirect inference to estimate a structural consumption–savings model, in which individuals both learn about the nature of their income process and partly insure shocks via informal mechanisms. In this framework, we estimate (i) the degree of partial insurance, (ii) the extent of systematic differences in income growth rates, (iii) the precision with which individuals know their own income growth rates when they begin their working lives, (iv) the persistence of typical labor income shocks, (v) the tightness of borrowing constraints, and (vi) the amount of measurement error in the data. In implementing indirect inference, we find that an auxiliary model that approximates the true structural equations of the model (which are not estimable) works very well, with negligible small sample bias. The main substantive findings are that income shocks are moderately persistent, systematic differences in income growth rates are large, individuals have substantial amounts of information about their income growth rates, and about one-half of income shocks are smoothed via partial insurance. Putting these findings together, the amount of uninsurable lifetime income risk that individuals perceive is substantially smaller than what is typically assumed in calibrated macroeconomic models with incomplete markets. Citing Literature Volume82, Issue6November 2014Pages 2085-2129 RelatedInformation