Insuring Labor Income Shocks: The Role of the Dynasty

We provide empirical evidence on the importance of a relatively understudied channel of insurance against labor income shocks: transfers from (cash-rich) parents to (cash-short) children when the latter experience negative wage shocks. Matching population data for Norway across two generations, we establish several results. First, parents make a transfer—i.e., run down liquid assets—when adult children experience negative labor income shocks. Consistent with dynastic insurance, we observe no transfers when income shocks are positive. Second, parents' responses depend on the nature of the shock. If losses are temporary, parents dissave; if they are persistent, parents save in order to make future transfers. Parental transfers offset 43% of temporary and 27% of persistent losses. Third, insurance is lower when children have other smoothing options, like spousal labor supply, and is greater for shocks to their own child versus a child’s spouse. Support also increases if the spouse’s parents can contribute, suggesting “competition for attention.” Lastly, insurance flows are one-way: children do not insure their parents against income losses.