Risk and Recovery: Understanding the Changing Risks to Family Incomes

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Abstract

This paper examines the characteristics and circumstances of families vulnerable to sharp income drops and those most likely to recover financially. More than 13 percent of nonelderly adults in families with children will see their incomes fall by half at some point over the course of a year, and about 40 percent fully recover within a year. Those who lose jobs or have an adult leave the family are more likely to have a substantial drop in income and are less likely to recover.  This study uses data from the Survey of Income and Program Participation, which collects data every four months and can provide information on short-term income loss.

Introduction

Policymakers and the public are increasingly sensing that families are on their own, at the mercy of such uncontrollable events as illness or downsizing and at ever-increasing risk for suffering financial losses and declines in their material well-being as a result of these events. A spate of recent research has begun to assess whether this perception is borne out by data on income and earnings. Most of this work has focused on the volatility of earnings and income—for example, how much a family’s income moves up or down from year to year—while some homes in on substantial declines in income. The data and research generally support the popular perception that income has grown more volatile over time, although the magnitude and timing of changes are sensitive to the data and measure of income used, the time span and population studied, and the analytic approach taken.

A focus on volatility captures the uncertainty families face in knowing what their income will be from one year to the next; however, more volatile incomes do not necessarily mean families or individuals are worse off. An increase in the variance of income over time also indicates that the income distribution is becoming less rigid over time and that families at the bottom at any given time are more likely to move up. Indeed, increased mobility is the flip side of increasing volatility.

In contrast, a focus on substantial income losses captures the downside of volatility. It is important to consider short-term losses as well as longer-term losses. Even short-term losses can disrupt family routines, elevate stress, and impede the ability to plan in addition to reducing total family resources, all of which may have lasting consequences for adults and children even if the loss of income is short-lived.

This paper examines the likelihood that nonelderly individuals in families with children experience a substantial drop in family income as well as the likelihood that their income returns to pre-decline levels. We use data from the 1996, 2001, and 2004 panels of the Survey of Income and Program Participation (SIPP) to examine the characteristics and circumstances of families that are most likely to see their incomes fall markedly as well as the factors associated with more speedy recoveries. Unlike studies that rely on annual data, we assess income changes (drops and recoveries) over a shorter time horizon of four-month periods.

Steep income drops are common, with 13.6 percent of families seeing their incomes fall by half at some point over the course of a year. The likelihood of income drops across the income distribution is U-shaped, with the lowest and highest income families the most likely to experience substantial income losses. In addition, women, those with disabilities, and those for whom earnings represents a relatively lower share of family income are more likely to experience substantial income drops than other individuals. Further, those whose incomes suddenly spike, who experience a job loss, who have an adult leave the family, or who become disabled are more likely to experience a substantial income drop than others.

Less than two in five individuals recover to at least 100 percent of their pre-drop income in the year after the drop.Women, older individuals, those without college degrees, and those whose income doubled in the months before a substantial income drop are less likely to return their pre-drop income levels than other individuals. In addition, those whose incomes were relatively low before a substantial income drop are more likely to recover and recover more quickly than higher-income individuals. Further, losing a job and having an adult leave a family at the time of a substantial income drop are associated with longer recovery times.

Below, we discuss prior research on income and earnings volatility. Next, we describe the data and methods we use to study income drops and recovery.We then present our findings and conclude with a discussion of their implications as well as directions for future research.

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