Insuring Educational Risk: Opportunities versus Income

We develop a model of education where individuals face educational risk. Successfully entering the skilled labor sector depends on individual effort in education and public resources, but educational risk still causes (income) inequality. We show that an optimal public policy consists of deferred skill-specific tuition fees, lump-sum transfers/taxes, and public funding of the educational sector. We argue that improved educational opportunities matter more than direct income transfers in a Second-best setting. Contrary to standard models of income risk, it is not optimal to use a proportional wage tax, because combining skill-specific tuition fees and public education spending provide both insurance and redistribution at lower costs. A wage tax is only optimal if skill-specific tuition fees are not available.human capital investment, endogenous risk, learning effort, optimal taxation, public education

Occupational Choice, Aggregate Productivity, and Trade

We propose occupational decisions of heterogeneous individuals as an alternative mechanism of explaining the distribution of firm productivities emphasized by empirical studies. Thus, we integrate the frameworks of Melitz (2003), and of Manasse and Turrini (2001) that establish the theoretical base of trade models with heterogeneous firms. Our model is technically much simpler than the Melitz approach while preserving the main results on firm-selection effects due to international market integration. Our approach paves the way for detailed analysis of institutions in a heterogeneous firm model to better understand the link between institutions and an economy’s productivity distribution.intra-industry trade, heterogeneous productivities, firm selection, occupational choice

Educational and Wage Risk: Social Insurance vs. Quality of Education

In this model of education, where individuals are exposed both to educational risk and to wage risk within the skilled sector, successful graduation depends both on individual effort to study and on public resources. We show that insuring the present risks is a dichotomic task: Wage risk is diversified ex post among the skilled by graduate taxation and skill-specific tuition fees. Educational risk of failure and inequality between skilled and unskilled workers are mitigated ex ante by enhancing the quality of education. The necessary expenditures are optimally financed by regressive tuition fees and the net revenue from the graduate tax.human capital investment, educational risk, wage risk, learning effort, graduate taxation, regressive tuition fees

Educational and wage risk: social insurance vs. quality of education

In this model of education, where individuals are exposed both to educational risk and to wage risk within the skilled sector, successful graduation depends both on individual effort to study and on public resources. We show that insuring the present risks is a dichotomic task: Wage risk is diversified ex post among the skilled by graduate taxation and skill-specific tuition fees. Educational risk of failure and inequality between skilled and unskilled workers are mitigated ex ante by enhancing the quality of education. The necessary expenditures are optimally financed by regressive tuition fees and the net revenue from the graduate tax

Does composition matter? Wage inequality and the demographic and educational structure of the labor force in Gemany

This paper addresses the importance of compositional changes in the labor force for the development of the wage distribution. Demographic change and higher educational attainment imply a shift toward employees with more experience and/or better education. These groups are characterized by higher relative wages as well as higher within-group wage inequality. Mechanically, these compositional shifts entail a rise in wage inequality. We demonstrate this mechanism theoretically and present empirical evidence using data of the German Socio-Economic Panel from the mid 1990's to 2012. Accounting for the parallel changes in the age structure and the educational background of the labor force, the compositional effects alone can explain up to one quarter of the observed increase in aggregate wage inequality

Determinants of sovereign yield spreads during the Euro-crisis: Fundamental factors versus systemic risk

The intensity of the Euro-crisis was reflected by significant increases of sovereign bond yields in the troubled countries. This has launched a hot debate whether this increase can solely be attributed to fundamental factors like e.g. rescue programmes, rising budget deficits, deteriorating economic prospects or changes in the rating-status of the country, or whether a part of these growing yields is likely to represent a systemic risk, i.e. that one or more countries will drop out of the European Monetary Union and reintroduce their own national currencies. This empirical analysis explores whether such systemic risk is present in the yield spreads of nine Euro area countries by using a novel market based indicator from the virtual prediction market Intrade. Our empirical results suggest that beside fundamental factors a systemic risk component played a role in determination of sovereign yields. Our empirical measure of the systemic component in sovereign yields can be related to the expected change of the newly introduced national currency. Accordingly to that, Portugal, Ireland, Spain and Italy are expected to depreciate their currency while the others would appreciate after a withdrawal from the Euro area. Risk premia that are related to fears of the reversibility of the Euro are unacceptable, and they need to be addressed in a fundamental manner. (ECB-President Mario Draghi, August 2012) Es gibt fundamentale Zweifel der Märkte an der Sicherheit der Währungsunion. (Bundesbankpräsident Jens Weidmann, July 2012

Shutting the stable door after the horse has bolted? On educational risk and the quality of education

We analyze whether a redistributive government should provide ex ante insurance against unfortunate outcomes or whether it should instead rely on transfers for redistributing income ex post. To this end, we develop a model of education in which individuals face educational risk and wage dispersion across two types of skills. Successful graduation and working as a skilled worker depends on individual effort in education and on public resources, but educational risk still causes (income) inequality. We show that in a second-best setting, in which learning effort is not observable, improving the quality of education by public funding of the educational sector has a significant effect and that this increases efficiency in comparison to a pure (linear) income tax with income transfers from skilled to unskilled workers. Compared to a first-best solution, providing ex ante insurance significantly gains importance relative to traditional ex post redistribution, because it simultaneously alleviates moral hazard in education. These results are strengthened when a (distortionary) skill-specific tax can be implemented

Occupational choice, aggregate productivity, and trade

We propose occupational decisions of heterogeneous individuals as an alternative mechanism of explaining the distribution of firm productivities emphasized by empirical studies. Thus, we integrate the frameworks of Melitz (2003), and of Manasse and Turrini (2001) that establish the theoretical base of trade models with heterogeneous firms. Our model is technically much simpler than the Melitz approach while preserving the main results on firm-selection effects due to international market integration. Our approach paves the way for detailed analysis of institutions in a heterogeneous firm model to better understand the link between institutions and an economy's productivity distribution

The impact of unskilled immigration on local labour markets

In a search-theoretic two region model, we analyse the impact of unskilled immigration and skill biased technological change on native wages and unemployment in local labour markets. We show that a specific combination of number and skills of immigrants generates a technology adoption of firms leading to insignificant wage changes. Thus our models explains the observed phenomenon of skill biased technological change, wage inequality and high inflows of immigrants in local labour markets. Our analysis also considers possible compensating or magnifying effects of native out-migration

Composition matters! Wage inequality and the demographic and educational structure of the labor force in Germany

This paper addresses the importance of compositional changes in the labor force for the development of the wage distribution. Demographic change and higher educational attainment imply a shift toward employees with more experience and/or better education. These groups are characterized by higher relative wages as well as higher within-group wage inequality. Mechanically, these compositional shifts entail a rise in wage inequality. We discuss the mechanisms theoretically and present empirical evidence using data of the German Socio-Economic Panel from the mid 1990's to 2012. Accounting for the parallel changes in the age structure and the educational background of the labor force, these compositional effects alone can explain one quarter of the observed increase in aggregate wage inequality