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Risks to Human Capital

Author

Listed:
  • Mehran Ebrahimian

    (Department of Finance, Stockholm School of Economics, 11383 Stockholm, Sweden)

  • Jessica A. Wachter

    (Department of Finance, The Wharton School, University of Pennsylvania, Philadelphia, Pennsylvania 19104; and Securities and Exchange Commission, Washington, District of Columbia 20549)

Abstract

We build a model with inalienable human capital, in which investors finance individuals who can potentially become skilled. Although investment in skill is always optimal, it does not take place in some states of the world, due to moral hazard. In intermediate states of the world, individuals acquire skill; however outside investors and individuals inefficiently share risk. We show that this simple moral hazard problem, combined with risk aversion of individuals and outside investors, amplifies the equity premium, lowers the risk-free rate, and leads to disaster states that fall especially heavily on some agents but not on others. We show that the possibility of disaster states distorts risk prices and affects wealth inequality, even under calibrations in which they never occur in equilibrium.

Suggested Citation

  • Mehran Ebrahimian & Jessica A. Wachter, 2025. "Risks to Human Capital," Management Science, INFORMS, vol. 71(3), pages 2583-2622, March.
    • Handle: RePEc:inm:ormnsc:v:71:y:2025:i:3:p:2583-2622
    DOI: 10.1287/mnsc.2022.03068
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