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Growth and Welfare Effects of Business Cycles in Economies with Idiosyncratic Human Capital Risk

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Tom Krebs (Brown University)

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Abstract

This paper uses a tractable macroeconomic model with idiosyncratic human capital risk and incomplete markets to analyze the growth and welfare effects of business cycles. The analysis is based on the assumption that the elimination of business cycles eliminates the variation in idiosyncratic risk. The paper shows that a reduction in the variation in idiosyncratic risk decreases the ratio of physical to human capital and increases the total investment return and welfare. If the degree of risk aversion is less than or equal to one, then economic growth is enhanced. This paper also provides a quantitative assessment of the macroeconomic effects of business cycles based on a calibrated version of the model. Even for relatively small degrees of risk aversion (around one) the model implies that the elimination of business cycles has substantial effects on investment in physical and human capital, economic growth, and welfare. (Copyright: Elsevier)

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File URL: http://dx.doi.org/10.1016/S1094-2025(03)00030-9
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Publisher Info
Article provided by Elsevier for the Society for Economic Dynamics in its journal Review of Economic Dynamics.

Volume (Year): 6 (2003)
Issue (Month): 4 (October)
Pages: 846-868
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Handle: RePEc:red:issued:v:6:y:2002:i:2:p:846-868

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Related research
Keywords: Cost of Business Cycles Growth Idiosyncratic Risk

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Find related papers by JEL classification:
D52 - Microeconomics - - General Equilibrium and Disequilibrium - - - Incomplete Markets
E32 - Macroeconomics and Monetary Economics - - Prices, Business Fluctuations, and Cycles - - - Business Fluctuations; Cycles
O40 - Economic Development, Technological Change, and Growth - - Economic Growth and Aggregate Productivity - - - General

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  10. Tom Krebs, 2002. "Asset Returns in an Endogenous Growth Model with Incomplete Markets," Working Papers 2002-18, Brown University, Department of Economics. [Downloadable!]
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  15. Tom Krebs, 2003. "Human Capital Risk And Economic Growth," The Quarterly Journal of Economics, MIT Press, vol. 118(2), pages 709-744, May. [Downloadable!] (restricted)
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  19. Tom Krebs, 2002. "Non-Existence of Recursive Equilibria on Compact State Spaces When Markets are Incomplete," Working Papers 2002-17, Brown University, Department of Economics. [Downloadable!]
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Full references

Cited by:
(explanations, Please report citation or reference errors to , or , if you are the registered author of the cited work, log in to your RePEc Author Service profile, click on "citations" and make appropriate adjustments.)

  1. Marcelo Bianconi, 2004. "The Welfare Gains from Stabilization in a Stochastically Growing Economy with Idiosyncratic Shocks and Flexible Labor Supply," Discussion Papers Series, Department of Economics, Tufts University 0413, Department of Economics, Tufts University. [Downloadable!]
    Other versions:
  2. Tom Krebs, 2004. "Welfare Cost of Business Cycles When Markets Are Incomplete," Working Papers 2004-08, Brown University, Department of Economics. [Downloadable!]
    Other versions:
  3. Anthony A. Smith, Jr., 2003. "The Research Agenda: Business Cycles and Inequality," EconomicDynamics Newsletter, Review of Economic Dynamics, vol. 4(2), April. [Downloadable!]
  4. Gadi Barlevy, 2005. "The cost of business cycles and the benefits of stabilization," Economic Perspectives, Federal Reserve Bank of Chicago, issue Q I, pages 32-49. [Downloadable!]
  5. Olga gorbachev, 2007. "Did Household Consumption Become More Volatile?," ESE Discussion Papers 161, Edinburgh School of Economics, University of Edinburgh. [Downloadable!]
  6. Ricardo Reis, 2005. "The Time-Series Properties of Aggregate Consumption: Implications for the Costs of Fluctuation," NBER Working Papers 11297, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
    Other versions:
  7. Krebs, tom & Krishna, Pravin & Maloney, William, 2005. "Trade policy, income risk, and welfare," Policy Research Working Paper Series 3622, The World Bank. [Downloadable!]
    Other versions:
  8. Gadi Barlevy & Daniel Tsiddon, 2004. "Earnings inequality and the business cycle," Working Paper Series WP-04-08, Federal Reserve Bank of Chicago. [Downloadable!]
    Other versions:
  9. Tom Krebs, 2002. "Recursive Equilibrium in Endigenous Growth Models with Incomplete Markets," Working Papers 2002-30, Brown University, Department of Economics. [Downloadable!]
    Other versions:
  10. Satyajit Chatterjee & Dean Corbae, 2003. "On the welfare gains of eliminating a small likelihood of economic crises: A case for stabilization policies?," Working Papers 03-20, Federal Reserve Bank of Philadelphia. [Downloadable!]
  11. Tsutomu Miyagawa & Yukie Sakuragawa & Miho Takizawa, 2005. "Productivity and the Business Cycle in Japan: Evidence from Japanese Industry Data," Hi-Stat Discussion Paper Series d05-108, Institute of Economic Research, Hitotsubashi University. [Downloadable!]
  12. Robert E. Lucas Jr., 2003. "Macroeconomic Priorities," American Economic Review, American Economic Association, vol. 93(1), pages 1-14, March. [Downloadable!] (restricted)
  13. Gadi Barlevy, 2004. "The Cost of Business Cycles and the Benefits of Stabilization: A Survey," NBER Working Papers 10926, National Bureau of Economic Research, Inc. [Downloadable!] (restricted)
  14. Tsutomu Miyagawa & Yukie Sakuragawa & Miho Takizawa, 2005. "Productivity and the Business Cycle in Japan -Evidence from Japanese Industry Data -," Discussion papers 05022, Research Institute of Economy, Trade and Industry (RIETI). [Downloadable!]
  15. Pengfei Wang & Yi Wen, 2007. "Endogenous volatility, endogenous growth, and large welfare gains from stabilization policies," Working Papers 2006-032, Federal Reserve Bank of St. Louis. [Downloadable!]
  16. Satyajit Chatterjee & Dean Corbae, 2006. "On the aggregate welfare cost of Great Depression unemployment," Working Papers 06-18, Federal Reserve Bank of Philadelphia. [Downloadable!]
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