DP5322 Precautionary Savings or Working Longer Hours?
|Publication Date:||October 2005|
|Keyword(s):||incomplete markets, labour supply, precautionary savings|
|JEL(s):||C68, D31, E21, J22|
|Programme Areas:||International Macroeconomics, Labour Economics, Public Economics|
|Link to this Page:||www.cepr.org/active/publications/discussion_papers/dp.php?dpno=5322|
This paper quantifies the macroeconomic implications of the lack of insurance against idiosyncratic labour market risk. I show that in a model economy calibrated to observed individual level data, households make ample use of work effort as a consumption smoothing mechanism. As a consequence, aggregate consumption is 0.6% lower, work effort is 18% higher and labour productivity is 12% lower than they would be in a complete markets setting. Not surprisingly, the welfare benefits of moving towards complete markets are very large. Accounting for the whole transition to the new complete markets steady state I find the welfare costs of market incompleteness above 16% of individual lifetime consumption.