Precautionary Saving for Consecutive Income Risk

Ben Etheridge

No 1202, 2015 Meeting Papers from Society for Economic Dynamics

Abstract: Abstract We examine whether households combine (or `complement') precautionary saving for near-term risks with saving for long-term risks. In a realistic life-cycle model, we find this complementarity effect accounts for 8-16% of precautionary savings. Almost all this effect is driven by permanent shocks. We then obtain analytical results from a 3-period model. We find permanent shocks induce complementarity for a general class of preferences, including those with constant relative risk aversion (CRRA). However, for most preferences in this class, the interaction of transitory shocks amplifies the precautionary motive. We interpret these results in terms of the structure of risks and the pattern of prudence over the wealth spectrum.

Date: 2015
New Economics Papers: this item is included in nep-dge
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