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Wage Volatility and Changing Patterns of Labor Supply

Over the past few decades, the skilled-unskilled hours differential for US men increased when the skill premium rose sharply, in contrast with dominant income effects. Based on PSID data, we show that over the 1967-2000 period, skilled men experienced three times larger increase in wage volatility than unskilled men. With the rise in wage volatility, our general equilibrium incomplete markets model generates a 2.7 hours increase in the hours differential while it increased by 1.4 hours in the data. We find that hours adjustments are important for self-insurance in the short run, whereas precautionary savings play a crucial role eventually.

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