Three prominent economists are out with a report today (June 22) that confirms what many in the labor force already knew: Their household incomes are subject to sharp variations from year to year.
In a report published by The Brookings Institution, Karen E. Dynan, chief of household and real estate finance section, division of research and statistics for the Federal Reserve Board; Douglas W. Elmendorf, a senior fellow in economic studies for Brookings; and Daniel E. Sichel, assistant director, division of research and statistics for the Fed estimated that households are 23% more likely to experience big drops in income than they were prior to the 1970s. While documenting this increase, however, the economists noted that their study showed less income volatility than several other studies and that the ready availability of credit, particularly through home-equity, has allowed households that experience wide income swings to maintain spending.
"To summarize our results, we find that household income has become noticeably more volatile during the past thirty years," the authors state in a report (SEE THE COMPLETE REPORT HERE). "We estimate that the standard deviation of percent changes in household income rose one-fourth between the early 1970s and early 2000s. This widening in the distribution of percent changes is concentrated in the tails of the distribution, and especially in the lower tail: Changes between the 25th and 75th percentiles are almost the same size now as thirty years ago, but changes at the 10th percentile look substantially more negative."
The study reports that "the boost in volatility occurred throughout the 1970s, 1980s, and 1990s, albeit not at a steady pace. Households¹ labor earnings and transfer payments have both become more volatile over time."
The study did not seek to determine the causes of income volatility, but it noted, "It may be surprising that this measure of volatility has no evident correlation with aggregate business cycles. However...the probability of large declines and increases in earnings is indeed related to business-cycle conditions. After allowing for the lag induced by the three-year rolling window, large declines...were more common in the mid-1970s, early 1980s, early 1990s, and early 2000s than at other times--lining up well with recessions.
However, a quick examination of the data presented in the study shows income volatility roughly parallels periods during the past 30 years in which significant change was introduced into the economy, largely by employers. The percentages increase in the late 1970s/early 1980s, when companies were cutting back on union jobs, and also during the early and mid-1990s, when "reengineering" was in fashion. There also appear to be increases in the 2000s that could be related to overseas outsourcing of jobs.
The authors caution that their methodology does not indicate the persistence of changes in income. They also caution that "an increase in the volatility of household income does not imply a corresponding increase in risk. Our calculations do not distinguish between voluntary and involuntary changes in income, they do not include shocks to desired spending, and they do not account for adjustments to saving and borrowing that can buffer income shifts."