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Labor-Market Uncertainty and Portfolio Choice Puzzles

Author

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  • Yongsung Chang
  • Jay H. Hong
  • Marios Karabarbounis

Abstract

The standard theory of household-portfolio choice is hard to reconcile with the following facts: (i) Households hold a small amount of equity despite the higher average rate of return. (ii) The share of risky assets increases with the age of the household. (iii) The share of risky assets is disproportionately larger for richer households. We develop a life-cycle model with age-dependent unemployment risk and gradual learning about the income profile that can address all three puzzles. Young workers, on average asset poor, face larger labor-market uncertainty because of high unemployment risk and imperfect knowledge about their earnings ability. This labor-market uncertainty prevents them from taking too much risk in the financial market. As the labor-market uncertainty is gradually resolved over time, workers can take more financial risks.

Suggested Citation

  • Yongsung Chang & Jay H. Hong & Marios Karabarbounis, 2014. "Labor-Market Uncertainty and Portfolio Choice Puzzles," Working Paper 14-13, Federal Reserve Bank of Richmond.
    • Handle: RePEc:fip:fedrwp:14-13
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    References listed on IDEAS

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    More about this item

    Keywords

    Portfolio Choice; Labor-Market Uncertainty; Learning;
    All these keywords.

    JEL classification:

    • J6 - Labor and Demographic Economics - - Mobility, Unemployment, Vacancies, and Immigrant Workers

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