Heterogeneous Agents and Uninsurable Idiosyncratic Employment Shocks in a Linearized Dynamic General Equilibrium Model

Abstract

This paper proposes an analytical solution method for a dynamic general equilibrium model with heterogeneous agents and uninsurable idiosyncratic employment shocks. The solution method yields an approximate balanced growth path which depends on the unemployment rate and the unemployment risk, but which is independent of the ever-changing wealth distribution.

Precautionary Saving Over the Business Cycle

“…The model is thus fully consistent with the flow approach to the labour market and can be evaluated using direct evidence on the cyclical movements in labour market flows. Our approach is also related to Vermylen (), who shows how to solve an incomplete‐market model with idiosyncratic shocks by linearising it around the steady state of its complete‐market counterpart. In contrast, our model can be formulated nonlinearly and can accommodate aggregate shocks.…”