Wage Uncertainty and Competitive Equilibrium in Labour Markets.

This paper analyzes the effect of wage-rate uncertainty on long-run competitive equilibrium for a labor market made up of heterogeneous workers. The authors show that, if workers are risk-averse, an increase in wage rate uncertainty always lowers aggregate hours of work and increases the expected wage. They also characterize precisely the class of distribution changes that decrease (or increase) aggregate hours of work and use this result to construct a Pareto-improving negative income tax scheme. Finally, the authors demonstrate that an increase in risk aversion has the same qualitative effect on aggregate hours of work and the expected wage as an increase in wage risk. Copyright 1994 by The London School of Economics and Political Science.