Optimal Investment in Human Capital Under Uncertainty

Abstract-In this paper we extend the standard human capital model with the probability of becoming unemployed and uncertainty about future earnings. Our analysis deviates from earlier human capital cum uncertainty models in assuming risk neutral decision-makers. This allows a straightforward comparison with the standard model and also facilitates calculations of unemployment and uncertainty accounted rates of return to education. The comparative statics of the model reveal that only the effect of changes in the earnings distribution can be signed unambiguously: greater dispersion in earnings by schooling level reduces the returns to schooling. The empirical illustrations suggest hat accounting for uncertainty and the probability of becoming unemployed slightly equalizes differences in the rates of return for different levels of schooling. 1. INTRODUCTION’ MOST DECISIONS on human capital are taken under uncertainty with respect o the opportunities offered by schooling and the returns on the investment. Schooling decisions are typically taken at an age a