ON THE CYCLICAL ALLOCATION OF RISK

A real business cycle model, with two types of agents, workers, and entrepreneurs, is 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. It can. There exists 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. Insurance flows protecting workers against aggregate cyclical risk are calculated to be less than one percent of labor income.