An empirical investigation of labor income processes

Abstract

In this paper we reassess the evidence on labor income risk. There are two leading views on the nature of the income process in the current literature. The …rst view, which we call the "Restricted Income Pro…les"(RIP) process, holds that individuals are subject to large and very persistent shocks, while facing similar life-cycle income pro…les. The alternative view, which we call the "Heterogeneous Income Pro…les" (HIP) process, holds that individuals are subject to income shocks with modest persistence, while facing individual-speci…c income pro…les.We …rst show that ignoring pro…le heterogeneity, when in fact it is present, introduces an upward bias into the estimates of persistence. Second, we estimate a parsimonious parameterization of the HIP process that is suitable for calibrating economic models. The estimated persistence is about 0.8 in the HIP process compared to about 0.99 in the RIP process. Moreover, the heterogeneity in income pro…les is estimated to be substantial, explaining between 56 to 75 percent of income inequality at age 55. We also …nd that pro…le heterogeneity is substantially larger among higher educated individuals. Third, we discuss the source of identi…cation-in other words, the aspects of labor income data that allow one to distinguish between the HIP and RIP processes. Finally, we show that the main evidence against pro…le heterogeneity in the existing literature-that the autocorrelations of income changes are small and negative-is also replicated by the HIP process, suggesting that this evidence may have been misinterpreted. JEL classi…cation: C33, D31, J31.

Lifetime Earnings Differences across Black and White Individuals: Years Worked Matter

“…1 We exclude all individuals who died while in the sample. 2 See, for example, Guvenen (2009) for evidence on differences in the growth rate of earnings across individuals.…”

The dynamic cross-sectional microsimulation model MOSART

“…They will be explicitly based on cohort histories instead of combining cohort and yearly effects, and the estimation will be closer to that found in the literature on Mincer equations and in the literature looking at the different effects of permanent and transitory income shocks. Guvenen (2009) and Heckman et al (2006).…”

Pareto Extrapolation: Bridging Theoretical and Quantitative Models of Wealth Inequality

“…where η t ∼ N(0, 1). Guvenen (2009) estimates values of ρ = 0.821 and σ = 0.170 by estimating a model that allows for heterogeneous lifetime earning profiles. We discretize the process (4.20) over a three-point grid using the method proposed by Farmer and Toda (2017), while imposing that the unconditional mean of h τ is equal to one.…”