Back to background risk?

Andreas Fagereng, Luigi Guiso and Luigi Pistaferri

Discussion Papers from Statistics Norway, Research Department

Abstract: Estimating the effect of background risk on individual financial choices faces two challenges. First, the identification of the marginal effect requires a measure of at least one component of human capital risk that qualifies as "background" (a risk that an individual cannot diversify or avoid). Absent this, estimates suffer from measurement error and omitted variable bias. Moreover, measures of background risk must vary over time to eliminate unobserved heterogeneity. Second, once the marginal effect is identified, an evaluation of the economic significance of background risk requires knowledge of the size of all the background risk actually faced. Existing estimates are problematic because measures of background risk fail to satisfy the "nonavoidability" requirement. This creates a downward bias which is at the root of the small estimated effect of background risk. To tackle the identification problem we match panel data of workers and firms and use the variability in the profitability of the firm that is passed over to workers to obtain a measure of risk that is hardly avoidable. We rely on this measure to instrument total variability in individual earnings and find that the marginal effect of background risk is much larger than estimates that ignore endogeneity. We bound the economic impact of human capital background risk and find that its overall effect is contained, not because its marginal effect is small but because its size is small. And size of background risk is small because firms provide substantial wage insurance.

Keywords: Background risk; Portfolio Choice; Labor Income Uncertainty (search for similar items in EconPapers)
JEL-codes: D1 D8 G11 (search for similar items in EconPapers)
Pages: 44 pages
Date: 2016-02
New Economics Papers: this item is included in nep-hrm
References: View references in EconPapers View complete reference list from CitEc
Citations: View citations in EconPapers (4)

Downloads: (external link)
https://www.ssb.no/en/forskning/discussion-papers/_attachment/254274 (application/pdf)
Our link check indicates that this URL is bad, the error code is: 404 Not Found

Related works:
Working Paper: Back to background risk? (2016)
Working Paper: Back to Background Risk (2016)
This item may be available elsewhere in EconPapers: Search for items with the same title.

Export reference: BibTeX RIS (EndNote, ProCite, RefMan) HTML/Text

Persistent link: https://EconPapers.repec.org/RePEc:ssb:dispap:834

Ordering information: This working paper can be ordered from
https://www.ssb.no/e ... k-to-background-risk

Access Statistics for this paper

More papers in Discussion Papers from Statistics Norway, Research Department P.O.Box 8131 Dep, N-0033 Oslo, Norway. Contact information at EDIRC.
Bibliographic data for series maintained by L Maasø ().