How important is precautionary saving?
We estimate the fraction of the wealth of a sample of PSID respondents that is held because some households face greater income uncertainty than others. We first derive an equation characterizing the theoretical relationship between wealth and uncertainty in a buffer-stock model of saving. Next, we estimate that equation using PSID data; we find strong evidence that households engage in precautionary saving. Finally, we simulate the wealth distribution that would prevail if all households had the same uncertainty as the lowest-uncertainty group. We find that between 39 and 46 percent of wealth in our sample is attributable to uncertainty differentials across groups.
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