The Effects of Biased Labor Market Expectations on Consumption, Wealth Inequality, and Welfare

Abstract

Idiosyncratic labor risk is a prevalent phenomenon with important implications for individual choices. In labor market research it is commonly assumed that agents have rational expectations and therefore correctly assess the risk they face in the labor market. We analyse survey data for the U.S. and document a substantial optimistic bias of households in their subjective expectations about future labor market transitions. Furthermore, we analyze the heterogeneity in the bias across different demographic groups and we find that high-school graduates tend to be strongly overoptimistic about their labor market prospects, whereas college graduates have rather precise beliefs. In the context of a quantitative heterogenous agents life cycle model we show that the optimistic bias has a quantitatively sizable negative effect on the life cycle allocation of income, consumption and wealth and implies a substantial loss in individual welfare compared to the allocation under full information. Moreover, we establish that the heterogeneity in the bias leads to pronounced differences in the accumulation of assets across individuals, and is thereby a quantitatively important driver of inequality in wealth.JEL-Codes: E210, D840.

Which Occupations Do Unemployed Workers Target? Insights from Online Job Search Profiles

“…This pattern corresponds to findings from the US(Balleer et al, 2021;Mueller et al, 2021;Spinnewijn, 2015) and Germany(Caliendo et al, 2023;Kassenboehmer and Schatz, 2017;van den Berg et al, 2023), similarly demonstrating that displaced workers often maintain excessively optimistic beliefs.…”

Biased Expectations and Labor Market Outcomes: Evidence from German Survey Data and Implications for the East-West Wage Gap

“…Here, we use the Current Population Survey (CPS) to predict quarterly transition rates out of employment and compare these to the corresponding expectations measured in the Survey of Consumer Expectations (SCE) based on observable characteristics. As documented in Balleer et al (2021), employed persons in the US are overoptimistic about leaving their current job, on average (see Table C.7). The composition of the sample, the reference transition rates and the measure of hourly wages are substantially different between the US and the German data (see Table C.6 and Balleer et al…”

“…In a complementary study (Balleer et al (2021)) we document differences in bias in labor market expectations across educational groups in the US. In the present study, we provide evidence about bias in job separation expectations in Germany.…”

Bad Luck or Bad Decisions? Macroeconomic Implications of Persistent Heterogeneity in Cognitive Skills and Overconfidence

“…So far, this literature has focused on various beliefs about the labor market and a subset of important macro applications. Balleer et al (2022) show that working-age individuals in the U.S. are "vastly over-optimistic about their own labor market prospects" (p. 1). Mueller et al (2021) find optimistic bias about job-finding rates, especially for the long-term unemployed, and little evidence for downward revision of these beliefs when remaining unemployed.…”