Professors German Cubas and Pedro Silos introduce new research on the quantitative importance of risk in the labor market and how that affects the professional career path of workers. This cutting-edge research provides insight into many important factors that often are ignored in lost earnings calculations used in litigation.
When workers are risk-averse and shocks to earnings are uninsurable, competitive markets allocate too few workers to jobs with high earnings uncertainty. Using a general equilibrium Roy model with incomplete markets we show that occupational risk is partially compensated in a laissez faire economy. However, risky occupations are inefﬁciently small compared to the social planner allocation or a complete markets economy; hence talent is misallocated. We obtain analytical expressions for the compensation for risk in the labor market, as well as for the aggregate level of human capital and output. Misallocation is positively related to the correlation between a worker’s abilities in different occupations. In our quantitative analysis we ﬁnd that only market incompleteness can generate output and welfare losses in the order of one percent of GDP, permanently.
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