By Winfried Koeniger and Carlo Zanella
We analyze how intergenerational mobility and inequality would change relative to the status quo if dynasties had access to optimal insurance against low ability of future generations. Based on a dynamic, dynastic Mirrleesian model, we find that insurance against intergenerational ability risk increases in the social optimum relative to the status quo. This implies less intergenerational mobility in terms of welfare but no quantitatively significant change in earnings mobility. Earnings mobility is thus similar across economies with different incentives and welfare, illustrating that changes in earnings mobility cannot be interpreted readily in welfare terms without further analysis.
I must confess that I have a hard time buying that it can be socially optimal to insure successful people against the failures of their offspring. It is natural that talent and entrepreneurship regress to the mean over generations, and successful dynasties insure themselves against that risk by building wealth and buying education and entrance into the right circles. Why would society subsidize that if it leads to lower aggregate outcomes? I think the issue is that when we think about an untalented rich kid going to a top school, it is taking away the spot of a talented poor kid, thus hurting the social outcome. There is not such trade-off in the model. Or maybe I am just confused, there are a lot of margins in play here.