The risk properties of human capital and the design of government policies

Whether human capital increases or decreases earnings uncertainty is an open question from an empirical standpoint. Yet, most policy prescriptions regarding human capital formation are based on models that impose riskiness on this human capital investment. In this paper we extend the dynamic Mirrlees taxation framework to include investments in human capital and derive prescriptions that are robust to the risk characteristics of human capital. Savings should be discouraged, human capital investments encouraged and both types of investment driven to an efficient level from an aggregate perspective. These prescriptions are also robust to whether investments are individually observed or not. (C) 2006 Elsevier B.V. All rights reserved.