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Incomplete Markets, Labor Supply and Capital Accumulation

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  • Albert Marcet
  • Francesc Obiols-Homs
  • Philippe Weil

Abstract

We explore the accumulation of capital in the presence of limited insurance against idiosyncratic shocks, borrowing constraints and endogenous labor supply. In the exogenous labor supply case (e.g. Aiyagari 1994, Huggett 1997), the presence of limited insurance increases the demand for savings for precautionary reasons. As a consequence, capital and output are higher under incomplete markets. We show that if labor hours are endogenous, labor supply is likely to be lower under incomplete markets, because those agents who experience a high shock to productivity are ex post richer and they work fewer hours. In some cases, this wealth effect can overcome the "aggregate precautionary savings" and give rise to lower savings and output under incomplete markets.

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Bibliographic Info

Paper provided by Barcelona Graduate School of Economics in its series Working Papers with number 173.

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Date of creation: Oct 2003
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Handle: RePEc:bge:wpaper:173

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Keywords: Idiosuncratic shocks; incomplete markets; labor supply;

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  1. Francesc Obiols-Homs, 2003. "Incomplete Unemployment Insurance and Aggregate Fluctuations," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 6(3), pages 602-636, July.
  2. Kimball, Miles S, 1990. "Precautionary Saving in the Small and in the Large," Econometrica, Econometric Society, Econometric Society, vol. 58(1), pages 53-73, January.
  3. Christopher D Carroll & Karen E Dynan & Spencer D Krane, 1999. "Unemployment Risk and Precautionary Wealth: Evidence from Households' Balance Sheets," Economics Working Paper Archive, The Johns Hopkins University,Department of Economics 416, The Johns Hopkins University,Department of Economics.
  4. Levine, Ross, 1996. "Financial development and economic growth : views and agenda," Policy Research Working Paper Series, The World Bank 1678, The World Bank.
  5. S. Rao Aiyagari, 1993. "Uninsured idiosyncratic risk and aggregate saving," Working Papers, Federal Reserve Bank of Minneapolis 502, Federal Reserve Bank of Minneapolis.
  6. Abowd, John M & Card, David, 1989. "On the Covariance Structure of Earnings and Hours Changes," Econometrica, Econometric Society, Econometric Society, vol. 57(2), pages 411-45, March.
  7. Jess Benhabib & Richard Rogerson & Randall Wright, 1991. "Homework in macroeconomics: household production and aggregate fluctuations," Staff Report, Federal Reserve Bank of Minneapolis 135, Federal Reserve Bank of Minneapolis.
  8. Deaton, A., 1989. "Saving And Liquidity Constraints," Papers, Princeton, Woodrow Wilson School - Public and International Affairs 153, Princeton, Woodrow Wilson School - Public and International Affairs.
  9. Jappelli, Tullio & Pagano, Marco, 1994. "Saving, Growth, and Liquidity Constraints," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 109(1), pages 83-109, February.
  10. Marianne Baxter & Mario J. Crucini, 1992. "Business cycles and the asset structure of foreign trade," Discussion Paper / Institute for Empirical Macroeconomics, Federal Reserve Bank of Minneapolis 59, Federal Reserve Bank of Minneapolis.
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  12. Rios-Rull, Jose-Victor, 1994. "On the quantitative importance of market completeness," Journal of Monetary Economics, Elsevier, Elsevier, vol. 34(3), pages 463-496, December.
  13. Sandmo, Agnar, 1970. "The Effect of Uncertainty on Saving Decisions," Review of Economic Studies, Wiley Blackwell, Wiley Blackwell, vol. 37(3), pages 353-60, July.
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  15. Krusell, P & Smith Jr, A-A, 1995. "Income and Wealth Heterogeneity in the Macroeconomic," RCER Working Papers, University of Rochester - Center for Economic Research (RCER) 399, University of Rochester - Center for Economic Research (RCER).
  16. Imrohoruglu, Ayse, 1989. "Cost of Business Cycles with Indivisibilities and Liquidity Constraints," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 97(6), pages 1364-83, December.
  17. Gary Hansen, 2010. "Indivisible Labor and the Business Cycle," Levine's Working Paper Archive 233, David K. Levine.
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  19. Huggett, Mark, 1997. "The one-sector growth model with idiosyncratic shocks: Steady states and dynamics," Journal of Monetary Economics, Elsevier, Elsevier, vol. 39(3), pages 385-403, August.
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  21. Mark Huggett & Sandra Ospina, 1998. "On Aggregate Precautionary Saving: When is the Third Derivative Irrelevant?," Working Papers, Centro de Investigacion Economica, ITAM 9802, Centro de Investigacion Economica, ITAM.
  22. Hernandez D, Alejandro, 1991. "The dynamics of competitive equilibrium allocations with borrowing constraints," Journal of Economic Theory, Elsevier, Elsevier, vol. 55(1), pages 180-191, October.
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  24. Huggett, Mark & Ospina, Sandra, 2001. "Aggregate precautionary savings: when is the third derivative irrelevant?," Journal of Monetary Economics, Elsevier, Elsevier, vol. 48(2), pages 373-396, October.
  25. Aiyagari, S Rao, 1995. "Optimal Capital Income Taxation with Incomplete Markets, Borrowing Constraints, and Constant Discounting," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 103(6), pages 1158-75, December.
  26. Gary Chamberlain & Charles A. Wilson, 2000. "Optimal Intertemporal Consumption Under Uncertainty," Review of Economic Dynamics, Elsevier for the Society for Economic Dynamics, Elsevier for the Society for Economic Dynamics, vol. 3(3), pages 365-395, July.
  27. Bruce D. Smith, 2003. "Taking intermediation seriously," Proceedings, Federal Reserve Bank of Cleveland, Federal Reserve Bank of Cleveland, pages 1319-1377.
  28. Ana Castaneda & Javier Diaz-Gimenez & Jose-Victor Rios-Rull, 2003. "Accounting for the U.S. Earnings and Wealth Inequality," Journal of Political Economy, University of Chicago Press, University of Chicago Press, vol. 111(4), pages 818-857, August.
  29. Douglas Clement, 2003. "Accounting for the rich," The Region, Federal Reserve Bank of Minneapolis, Federal Reserve Bank of Minneapolis, issue Jun, pages 8-11, 48-52.
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