Wage risk and the skill premium

The skill premium has gone up significantly in the United States in the last five decades. During the same period, individual wage volatility has also increased. By incorporating the technology-education race model of Tinbergen (1974) into a stan- dard incomplete markets model, this paper proposes a mechanism through which a rise in individual wage risk leads to an increase in skill premium. In our benchmark quantitative exercise, the rise in individual wage risk observed between 1967 and 2010 accounts for about 1/3 of the overall increase in skill premium during the same period.