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On the Cyclical Allocation of Risk

Discussion Paper 71 | Published July 1, 1992

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On the Cyclical Allocation of Risk


A real business cycle model with heterogeneous agents is parameterized, calibrated, and simulated to see if it can account for some stylized facts characterizing postwar U.S. business cycle fluctuations, such as the countercyclical movement of labor’s share of income, and the acyclical behavior of real wages. There are two types of agents in the model, workers and entrepreneurs, who participate on an economy-wide market for contingent claims. On this market workers purchase insurance from entrepreneurs, through optimal labor contracts, against losses in income due to business cycle fluctuations. The model is used to study the allocation of risk and the distribution of income over the business cycle.

Published In: Journal of Economic Dynamics and Control (Vol. 19, No. 1-2, January-February 1995, pp. 91-124)