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Uninsured idiosyncratic risk, liquidity constraints and aggregate fluctuations

  • Javier DÎaz-GimÊnez

    (Departamento de EconomÎa, Universidad Carlos III de Madrid, Calle Madrid 126, E-28903 Getafe, SPAIN)

I study the role played by uninsured idiosyncratic risk and liquidity constraints in the propagation of aggregate fluctuations. To this purpose, I compare the aggregate fluctuations of two model economies that differ in their insurance technologies only. In one of these model economies liquidity constrained households vary their holdings of a nominally denominated asset in order to buffer an uninsured idiosyncratic shock to their individual production opportunities. In the other economy every idiosyncratic component of risk can be costlessly insured. I find that the limited insurance technology implies fluctuations in output that are 20% larger, fluctuations in hours relative to output that are 9% larger, fluctuations in consumption relative to output that are 18% smaller, and a correlation of hours and productivity that is 15% smaller than those that obtain under the full insurance technology.

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Article provided by Springer in its journal Economic Theory.

Volume (Year): 10 (1997)
Issue (Month): 3 ()
Pages: 463-482

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Handle: RePEc:spr:joecth:v:10:y:1997:i:3:p:463-482
Note: Received: March 6, 1996; revised version August 15, 1996
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