Labor-Market Uncertainty and Portfolio Choice Puzzles

FRB Richmond Working Paper No. 14-13

51 Pages Posted: 25 Jun 2014

See all articles by Yongsung Chang

Yongsung Chang

University of Rochester - Department of Economics; Yonsei University - Department of Economics

Jay H. Hong

University of Rochester - Department of Economics

Marios Karabarbounis

Federal Reserve Banks - Federal Reserve Bank of Richmond

Date Written: June 20, 2014

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.

Keywords: Portfolio Choice, Labor-Market Uncertainty, Learning

Suggested Citation

Chang, Yongsung and Hong, Jay H. and Karabarbounis, Marios, Labor-Market Uncertainty and Portfolio Choice Puzzles (June 20, 2014). FRB Richmond Working Paper No. 14-13, Available at SSRN: https://ssrn.com/abstract=2457211 or http://dx.doi.org/10.2139/ssrn.2457211

Yongsung Chang

University of Rochester - Department of Economics ( email )

Harkness Hall
Rochester, NY 14627
United States

Yonsei University - Department of Economics ( email )

50 Yonsei-Ro
Seoul, 120-749
Korea

Jay H. Hong

University of Rochester - Department of Economics ( email )

Harkness Hall
Rochester, NY 14627
United States

Marios Karabarbounis (Contact Author)

Federal Reserve Banks - Federal Reserve Bank of Richmond ( email )

P.O. Box 27622
Richmond, VA 23261
United States

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