Abstract: This paper studies the cyclical nature of individual income risk using a confidential dataset from the U.S. Social Security Administration, which contains (uncapped) earnings histories for millions of individuals. The base sample is a nationally representative panel containing 10 percent of all U.S. males from 1978 to 2010. We use these data to decompose individual income growth during recessions into “betweengroup” and “within-group” components. We begin with the behavior of within-group shocks. Contrary to past research, we do not find the variance of idiosyncratic income shocks to be countercyclical. Instead, it is the left-skewness of shocks that is strongly countercyclical. That is, during recessions, the upper end of the shock distribution collapses—large upward income movements become less likely— whereas the bottom end expands—large drops in income become more likely. Thus, while the dispersion of shocks does not increase, shocks become more left skewed and, hence, risky during recessions. Second, to study between-group differences, we group individuals based on several observable characteristics at the time a recession hits. One of these characteristics—the average income of an individual at the beginning of a business cycle episode—proves to be an especially good predictor of fortunes during a recession: prime-age workers that enter a recession with high average earnings suffer substantially less compared with those who enter with low average earnings (which is not the case during expansions). Finally, we find that the cyclical nature of income risk is dramatically different for the top 1 percent compared with all other individuals—even relative to those in the top 2 to 5 percent.

The full text can be found here.

Abstract: Psychological factors, market sentiments, and shifts in beliefs are believed by many to play a nontrivial role in inducing and amplifying economic fluctuations. Yet, these forces are rarely considered in macroeconomic models.

This paper provides an attempt to evaluate the empirical role of expectational shocks on business cycle fluctuations. The paper relaxes the conventional assumption of rational expectations to exploit observed data on survey and market expectations in the estimation of a benchmark New Keynesian model. The observed expectations are modeled as formed from a near-rational expectation formation mechanism, which assumes that economic agents use a linear perceived law of motion for economic variables that has the same structural form as the model solution under rational expectations and that they need to learn model coefficients over time.

In addition to the typical structural demand, supply, and policy disturbances, the model incorporates expectation shocks, which affect the formation of expectations by the private sector. Both the best-fitting learning process and the expectations shocks are identified from the expectations data and from the interaction between expectations and realized data. The expectations shocks capture waves of optimism and pessimism that lead agents to form forecasts that deviate from those implied by their learning model and by the state of the economy.

The empirical results uncover a crucial role for these novel expectations shocks as a major driving force of the U.S. business cycle. Expectation shocks regarding future real activity are the main source of economic fluctuations, since they can account for roughly half of business cycle fluctuations.

The full text can be found here.

Abstract: We develop a model of perpetual youth with health investment and upward-looking social aspirations. Individuals value their consumption relative to an aspiration level that differs across the distribution. Health capital produced from time investment and health expenditure positively affects the survival rate. We show that aspirations motivate individuals to supply more labor and earn more income but worsen income and consumption inequality. By diverting resources away from health production, they also worsen mortality for all, more so for the poor. Despite a strong negative effect of relative deprivation on personal health operating independently of the income-health gradient, inequality has a weak effect on overall life expectancy. We discuss why the latter may be weakening over time. These results explain the mixed evidence on health and inequality in the advanced economies and cautions against the use of aspirations as a policy tool in developing economies.

Paper can be found here.