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Investment Opportunities and the Sources of Lifetime Inequality

Urvi Neelakantan, Ivan Vidangos, Felicia Ionescu and Kartik Athreya
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Ivan Vidangos: Federal Reserve Board
Felicia Ionescu: Federal Reserve Board
Kartik Athreya: Federal Reserve Bank of Richmond

No 1177, 2016 Meeting Papers from Society for Economic Dynamics

Abstract: How much of the dispersion in lifetime earnings, wealth, consumption, and utility is resolved early in life (prior to working life) vs. later? This critical question has received much attention, with influential contributions coming from [keane1997], [storesletten2005], and [huggett2011]. The goal of this paper is to provide quantitative measures of how the full range of households' investment opportunities matters for the fraction of lifetime inequality determined relatively early in life relative to later on. We focus on the role played by three investment opportunities: risky, lumpy college education; risky equity; and costly borrowing. To our knowledge, our work is the first to provide quantitative measures of the importance of each in the temporal resolution of lifetime inequality and the importance of the interaction between them. We find, first, that nearly all income inequality is attributable to human capital variation at age 23. For individuals who have likely completed major educational investments, our results suggest that financial opportunities play only a minor role in altering inequality. Second, we find that the option to invest in high-return, high-risk assets meaningfully increases the importance of initial inequality, whereas the ability to borrow lowers it.

New Economics Papers: this item is included in nep-dge
Date: 2016
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