DP11809 Firm-Related Risk and Precautionary Saving Response

Author(s): Andreas Fagereng, Luigi Guiso, Luigi Pistaferri
Publication Date: January 2017
Keyword(s): firm shocks, precautionary savings, self-insurance
Programme Areas: Financial Economics
Link to this Page: cepr.org/active/publications/discussion_papers/dp.php?dpno=11809

We propose a new approach to identify the strength of the precautionary motive and the extent of self-insurance in response to earnings risk based on Euler equation estimates. To address endogeneity problems, we use Norwegian administrative data and instrument consumption and earnings volatility with the variance of firm-specific shocks. The instrument is valid because firms pass some of their productivity shocks onto wages; moreover, for most workers firm shocks are hard to avoid. Our estimates suggest a coefficient of relative prudence of 2, in a very plausible range.