Abstract
This study focuses on the transmission of inequality over the working life. A model of constrained intertemporal choice is used to provide structure to the distributional dynamics of wages, earnings, income and consumption. The mechanisms used to insure labour market shocks are examined in a partial-insurance setting where the manner and scope for insurance depends on the access to credit, the information available to consumers and the durability of income shocks. Drawing on recent research, family labour supply, the credit market and the tax system are all shown to play a key role. These mechanisms vary in importance across different points of the life cycle and the business cycle. © 2014 The Author(s). The Economic Journal published by John Wiley & Sons Ltd on behalf of Royal Economic Society.
Highlights
The objective of the research reported in this article is to use the framework of constrained intertemporal choice over consumption, saving and family labour supply to provide a structure for the distributional dynamics of wages, earnings, income and consumption
Taking labour market shocks as the primary source of uncertainty, the aim is to examine the linkages between the distribution of wages, earnings, joint labour supply, savings and consumption
The key idea is to use the framework of constrained intertemporal choice to provide a structure for the distributional dynamics of inequality over the working life
Summary
There is an extensive applied econometrics literature modelling income dynamics using the extensive panel data available for most modern economies. The focus in this article is on non-stationarity and on the persistence of shocks These are some of the key components of labour income dynamics as they impact on consumption and saving decisions. Where yiPt is a persistent process of income shocks which adds to the individual-specific trend (by age and time) Bi0;a;t fi and where yiTt is a transitory shock represented by some low-order MA process. Allowing for a higher MA process relaxes this; but at some point, the autocovariance structure for income growth drops to zero. This observation is a key source of identification in ‘permanent–transitory’ panel data models of income dynamics (MaCurdy 1982; Meghir and Pistaferri, 2004, 2011)
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