Complete Markets as an Approximation to the Bewley Equilibrium with Unemployment Risk∗

I show that the full-insurance model of consumption choice is a reasonable approximation to the more realistic case of no insurance when the adverse shocks take the form of spells of unemployment. Further, my results support the assumption of the Mortensen-Pissarides model that the flow amenity value of unemployment—the value of not having to work—is a constant when stated in units of consumption. By accumulating precautionary balances, workers are able to keep the common value of the marginal utility of consumption and the marginal value of wealth reasonably close to constant, despite a realistic hazard of unemployment. ∗This research is part of the program on Economic Fluctuations and Growth of the NBER. A file containing the calculations will be available at Stanford.edu/∼rehall 1