CEDE Seminar - Rocio Madera

Individual-level labor income risk is partially insured within households. The traditional focus has been on active spousal insurance, in the sense of a spouse entering the labor market in response to the other spouse losing their job (the added worker effect). With increasing female labor force participation, two earner households are more common, which implies that the traditional insurance channel is less relevant. Instead, it is im- portant to understand the degree to which individual risk is correlated within couples, which limits the scope of within-household insurance. We use tax register data on the full Danish population and, (i.), document a large amount of heterogeneity in income covariation of spouses, (ii.), relate such differences to joint characteristics of spouses, including measures of sorting in the labor market, and (iii.) use moments of income changes of sorted and not sorted couples to estimate an earnings process of joint earn- ings with correlated shocks. We further show that spousal similarity in labor market characteristics translates into a higher degree of household-level consumption respon- siveness to negative income changes, which is consistent with our findings that most of the correlation shows up in the permanent component of earnings risk. Our findings are consistent with the notion that the scope of spousal insurance in response to labor income shocks of the partner is limited by the extent to which both face correlated labor market risk.