The document discusses the role of fiscal policy in social security privatization reforms. It motivates the analysis by noting that defined benefit social security systems face viability issues due to increasing longevity. Any reform redistributes costs and benefits both between and within generations. Previous research has examined the tradeoff between efficiency gains and transition costs, or efficiency and insurance provision in stochastic settings. The authors contribute by introducing new fiscal policy options to accompany reforms, with the goals of boosting efficiency while maintaining insurance. They develop an overlapping generations model with income shocks to analyze how different fiscal policies impact the welfare and political support of social security privatization reforms.
Efficiency versus insurance: The role for fiscal policy in social security pr...GRAPE
This document discusses the role of fiscal policy in social security privatization reforms. It motivates the analysis by noting that defined benefit pension systems face viability issues due to longevity increases. Any reform redistributes costs and benefits between and within generations. Previous literature has considered efficiency gains against transition costs or insurance losses, but not compared different fiscal policy options. This paper develops an overlapping generations model with income shocks to evaluate how different fiscal policies, like labor taxes or public debt, can accompany a reform from defined benefit to partially funded individual accounts in order to offset insurance losses, boost efficiency, or smooth transition costs. It calibrates the model to the US economy and analyzes how welfare and political support are impacted under various policy combinations.
Effciency versus insurance: The role for fiscal policy in social security pri...GRAPE
Pension system reforms imply substantial redistribution between cohorts and within cohorts. They also implicitly affect the scope of risk sharing in societies. Linking pensions to individual incomes increases efficiency but reduces the insurance motive implicit in Beveridgean systems. The existing view in the literature argues that the insurance motive dominates the efficiency gains when evaluating the welfare effects. We show that this result is not universal: there exist ways to increase efficiency or compensate for the loss of insurance, assuring welfare gains from pension system reform even in economies with uninsurable idiosyncratic income shocks. The fiscal closure, which necessarily accompanies the changes in the pension system, may boost efficiency and/or make up for lower insurance in the pension system. Indeed, fiscal closures inherently interact with the effects of pension system reform, counteracting or reinforcing the original effects. By analyzing a variety of fiscal closures, we reconcile our result with the earlier literature. We also study the political economy context and show that political support is feasible depending on the fiscal closure.
Inequality in an OLG economy with heterogeneous cohorts and pension systemsGRAPE
This document discusses inequality in an overlapping generations economy with heterogeneous cohorts and pension systems. It motivates the study by noting that wealth inequality has increased due to demographic transitions and pension reforms from defined benefit to defined contribution systems. The document outlines an overlapping generations model with ex ante heterogeneity in endowments and preferences within cohorts to examine the distributional effects of pension reforms and policy instruments. Key results presented are that a reform from defined benefit to defined contribution pensions increases both wealth and consumption inequality, and that a minimum pension reduces inequality from the reform by 40-50% by affecting the endowments margin.
Welfare effects of fiscal policy in reforming the pension systemGRAPE
Most reforms of the pension systems imply substantial adjustments in between cohort and within cohort redistribution. Fiscal policy, which accompanies these changes may counteract or reinforce this redistribution. In an OLG model with uncertainty, we show that fiscal closure is crucial for determining the welfare effects of the pension system reforms as well as political support for introducing it. We analyze two sets of fiscal adjustments: fiscally neutral adjustments in the pension system (via contribution rate or replacement rate) and balancing pension system by a combination of taxes and/or public debt. We find that in general, fiscally neutral pension system reforms are more likely to yield welfare gains. Many adjustments obtain sufficient political support despite yielding aggregate welfare losses and vice versa. We show the role of the insurance motive implicit in some pension systems for determining the welfare effects of the reform and point to fiscal closures which attenuate and reinforce the relevance of this motive for determining the welfare effects.
Welfare effects of fiscal policy in reforming the pension systemGRAPE
Most reforms of the pension systems imply substantial redistribution between cohorts and within cohort. Fiscal policy, which accompanies these changes may counteract or reinforce this redistribution. Moreover, the literature has argued that the insurance motive implicit in some pension systems plays a major role in determining the welfare effects of the reform: reforms otherwise improving welfare become detrimental to welfare once insurance motive is internalized. We show that this result is not universal, i.e. there exists a variety of fiscal closures which yield welfare gains and political support for a pension system reform. In an OLG model with uncertainty we analyze two sets of fiscal adjustments: fiscally neutral adjustments in the pension system (via contribution rate or replacement rate) and balancing pension system by a combination of taxes and/or public debt. We find that fiscally neutral pension system reforms are more likely to yield welfare gains. Many adjustments obtain sufficient political support despite yielding aggregate welfare losses and vice versa. Furthermore, we point to fiscal closures which attenuate and reinforce the relevance of the insurance motive in determining the welfare effects.
Does social security reform reduce gains from higher retirement age?GRAPE
Increasing the minimum eligibility retirement age was evaluated under different pension systems: defined benefit (DB), notional defined contribution (NDC), and fully funded defined contribution (FDC). Raising the retirement age was found to increase welfare in all systems. Under DB, leisure decreased and taxes fell. Under NDC and FDC, leisure decreased but pensions increased. Labor supply adjusted downward for individual workers but increased in aggregate due to longer careers. Capital decreased primarily from lower precautionary savings rather than changes in productivity. Overall, retirement age increases were found to have economy-wide benefits regardless of pension system design.
Inequality in an OLG economy with heterogeneous cohorts and pension systemsGRAPE
Marcin Bielecki, Krzysztof Makarski and Joanna Tyrowicz
GRAPEjFAME & University of Warsaw & National Bank of Poland
International Workshop Economic Growth, Macroeconomic Dynamics and
Agents’ Heterogeneity, St. Petersburg, 2017
Efficiency versus insurance: The role for fiscal policy in social security pr...GRAPE
This document discusses the role of fiscal policy in social security privatization reforms. It motivates the analysis by noting that defined benefit pension systems face viability issues due to longevity increases. Any reform redistributes costs and benefits between and within generations. Previous literature has considered efficiency gains against transition costs or insurance losses, but not compared different fiscal policy options. This paper develops an overlapping generations model with income shocks to evaluate how different fiscal policies, like labor taxes or public debt, can accompany a reform from defined benefit to partially funded individual accounts in order to offset insurance losses, boost efficiency, or smooth transition costs. It calibrates the model to the US economy and analyzes how welfare and political support are impacted under various policy combinations.
Effciency versus insurance: The role for fiscal policy in social security pri...GRAPE
Pension system reforms imply substantial redistribution between cohorts and within cohorts. They also implicitly affect the scope of risk sharing in societies. Linking pensions to individual incomes increases efficiency but reduces the insurance motive implicit in Beveridgean systems. The existing view in the literature argues that the insurance motive dominates the efficiency gains when evaluating the welfare effects. We show that this result is not universal: there exist ways to increase efficiency or compensate for the loss of insurance, assuring welfare gains from pension system reform even in economies with uninsurable idiosyncratic income shocks. The fiscal closure, which necessarily accompanies the changes in the pension system, may boost efficiency and/or make up for lower insurance in the pension system. Indeed, fiscal closures inherently interact with the effects of pension system reform, counteracting or reinforcing the original effects. By analyzing a variety of fiscal closures, we reconcile our result with the earlier literature. We also study the political economy context and show that political support is feasible depending on the fiscal closure.
Inequality in an OLG economy with heterogeneous cohorts and pension systemsGRAPE
This document discusses inequality in an overlapping generations economy with heterogeneous cohorts and pension systems. It motivates the study by noting that wealth inequality has increased due to demographic transitions and pension reforms from defined benefit to defined contribution systems. The document outlines an overlapping generations model with ex ante heterogeneity in endowments and preferences within cohorts to examine the distributional effects of pension reforms and policy instruments. Key results presented are that a reform from defined benefit to defined contribution pensions increases both wealth and consumption inequality, and that a minimum pension reduces inequality from the reform by 40-50% by affecting the endowments margin.
Welfare effects of fiscal policy in reforming the pension systemGRAPE
Most reforms of the pension systems imply substantial adjustments in between cohort and within cohort redistribution. Fiscal policy, which accompanies these changes may counteract or reinforce this redistribution. In an OLG model with uncertainty, we show that fiscal closure is crucial for determining the welfare effects of the pension system reforms as well as political support for introducing it. We analyze two sets of fiscal adjustments: fiscally neutral adjustments in the pension system (via contribution rate or replacement rate) and balancing pension system by a combination of taxes and/or public debt. We find that in general, fiscally neutral pension system reforms are more likely to yield welfare gains. Many adjustments obtain sufficient political support despite yielding aggregate welfare losses and vice versa. We show the role of the insurance motive implicit in some pension systems for determining the welfare effects of the reform and point to fiscal closures which attenuate and reinforce the relevance of this motive for determining the welfare effects.
Welfare effects of fiscal policy in reforming the pension systemGRAPE
Most reforms of the pension systems imply substantial redistribution between cohorts and within cohort. Fiscal policy, which accompanies these changes may counteract or reinforce this redistribution. Moreover, the literature has argued that the insurance motive implicit in some pension systems plays a major role in determining the welfare effects of the reform: reforms otherwise improving welfare become detrimental to welfare once insurance motive is internalized. We show that this result is not universal, i.e. there exists a variety of fiscal closures which yield welfare gains and political support for a pension system reform. In an OLG model with uncertainty we analyze two sets of fiscal adjustments: fiscally neutral adjustments in the pension system (via contribution rate or replacement rate) and balancing pension system by a combination of taxes and/or public debt. We find that fiscally neutral pension system reforms are more likely to yield welfare gains. Many adjustments obtain sufficient political support despite yielding aggregate welfare losses and vice versa. Furthermore, we point to fiscal closures which attenuate and reinforce the relevance of the insurance motive in determining the welfare effects.
Does social security reform reduce gains from higher retirement age?GRAPE
Increasing the minimum eligibility retirement age was evaluated under different pension systems: defined benefit (DB), notional defined contribution (NDC), and fully funded defined contribution (FDC). Raising the retirement age was found to increase welfare in all systems. Under DB, leisure decreased and taxes fell. Under NDC and FDC, leisure decreased but pensions increased. Labor supply adjusted downward for individual workers but increased in aggregate due to longer careers. Capital decreased primarily from lower precautionary savings rather than changes in productivity. Overall, retirement age increases were found to have economy-wide benefits regardless of pension system design.
Inequality in an OLG economy with heterogeneous cohorts and pension systemsGRAPE
Marcin Bielecki, Krzysztof Makarski and Joanna Tyrowicz
GRAPEjFAME & University of Warsaw & National Bank of Poland
International Workshop Economic Growth, Macroeconomic Dynamics and
Agents’ Heterogeneity, St. Petersburg, 2017
This document summarizes a study that examines the welfare effects of increasing the retirement age under different pension schemes (defined benefit, notional defined contribution, and funded defined contribution) using overlapping generations models. It finds that increasing the retirement age leads to overall welfare gains in all schemes. The mechanisms through which welfare increases differ across schemes, with labor supply, pensions, taxes, and other macroeconomic variables changing to different degrees depending on the pension design. The study aims to better understand how macroeconomic effects and welfare impacts may vary when the retirement age is increased under different existing pension-benefit linkages.
Inequality in an OLG economy with heterogeneous cohorts and pension systemsGRAPE
The document analyzes how inequality changes in an overlapping generations economy with heterogeneous cohorts and pension systems. It finds that wealth and consumption inequalities increase due to demographic transitions and a pension reform from defined benefit to defined contribution systems. Minimum pensions can reduce inequality increases from the reform by 40-50% by raising incomes at the bottom, but have little effect on preferences. Contribution caps have a negligible impact on inequality. Overall, demographic changes contribute more to rising inequalities than the pension system reform.
Evaluating welfare and economic effects of raised fertilityGRAPE
In the context of second demographic transition many countries consider pro-natalistic policies as viable solutions to the fiscal pressure stemming from longevity and declining fertility. However, increased number of births implies immediate economic costs and delayed economic gains. Moreover, quantification of these gains remains a challenge. We develop an overlapping generations model with family structure and utilize this model to quantify the effects in the increases in birth rates. We show the overall welfare and macroeconomic effects as well as distribution of these effects across cohorts. We also show how the distribution of children across families affects those estimations for a given birth rate.
The Sooner The Better - The Welfare Effects of the Retirement Age Increase Un...GRAPE
This document summarizes a study that analyzes the macroeconomic and welfare effects of increasing the retirement age under different pension systems (defined benefit, notional defined contribution, and funded defined contribution). It finds that increasing the retirement age has universally positive welfare effects and increases aggregate labor supply. These effects are largest under a funded defined contribution system and enhanced when productivity increases with age. Various robustness checks considering alternative demographic and productivity assumptions confirm these overall conclusions.
On the optimal introduction of a funded pension pillarGRAPE
Jan Woźnica, Marcin Bielecki, Krzysztof Makarski and Joanna Tyrowicz Group for Research in APplied Economics (GRAPE)
15th International Pension Workshop
Paris, May 2017
Is the retirement age increase in Poland still necessary given the 1999 reform of the pension system? EmerytGRAPE analysis with the use of OLG model answers this question.
The shadow of longevity – does social security reform reduce gains from incre...GRAPE
This document summarizes a study that analyzes the macroeconomic and welfare effects of increasing the retirement age under different pension systems (defined benefit, notional defined contribution, and funded defined contribution). The study finds that increasing the retirement age is a universally efficient reform that improves welfare. Specifically:
1) Increasing the retirement age leads to higher aggregate labor supply, though individual labor supply may decrease for some.
2) Everyone gains from the reform, as beneficiaries receive higher pensions under defined contribution systems and taxpayers pay lower taxes to support defined benefit pensions.
3) While capital per worker decreases slightly, this is mostly due to a reduction in precautionary savings rather than true economic effects.
Welfare effects of fiscal policy in reforming the pension systemGRAPE
Joanna Tyrowicz, Olivia Komada and Krzysztof Makarski
Group for Research in APplied Economics (GRAPE)
15th International Pension Workshop
Paris, May 2017
This document summarizes a study that analyzes the macroeconomic and welfare effects of increasing the retirement age under different pension systems (defined benefit, notional defined contribution, and funded defined contribution). It finds that increasing the retirement age is universally welfare improving. Specifically, it leads to a decrease in average labor supply but an increase in aggregate labor supply. Capital and output per capita decrease due to lower savings. The positive welfare effects are enhanced when productivity increases with age.
Stimulating old-age savings under incomplete rationalityGRAPE
1) Government-subsidized voluntary old-age saving schemes reduce poverty and increase welfare compared to raising payroll taxes or reducing pension benefits alone under incomplete rationality.
2) However, the subsidies disproportionately benefit households who need them least.
3) While capital accumulation increases overall, crowd-out of private savings is large, limiting macroeconomic gains.
This document discusses using an overlapping generations model to analyze the welfare effects of different fiscal closure options for financing the pension reform in Poland in 1999. The reform transitioned the pension system from a defined benefit pay-as-you-go system to a combination of notional defined contribution and funded defined contribution systems. The model will compare the welfare effects across generations and over time for five different fiscal closure options to finance the gap created by contributions staying in the pay-as-you-go system. The analysis will provide insight into which fiscal closure option has the best effects on savings, labor supply, output, and overall welfare.
Inequalities in an OLG economy with heterogeneous cohorts and pension systemsGRAPE
1) A pension system reform from defined benefit to defined contribution in Poland would likely increase consumption inequalities but decrease wealth inequalities.
2) The demographic transition alone would increase consumption inequalities more than the pension reform.
3) Minimum pensions could reduce the rise in consumption inequality from the pension reform by around 40% by targeting those with lower incomes, but would slightly increase consumption by reducing savings incentives. The effects of contribution caps would be negligible.
Efficiency of the pension reform: The welfare effects of various fiscal closuresGRAPE
- The document discusses modeling the welfare effects of various fiscal closures (ways of financing) for a pension reform in Poland that moves from a defined benefit to a partially funded defined contribution system.
- It develops an overlapping generations model to compare steady states before and after the reform under different fiscal closures like lump sum taxes, labor taxes, consumption taxes, and debt.
- Preliminary results show the pension reform leads to small net welfare gains of around 0.5-1% of permanent income depending on the fiscal closure and degree of time inconsistency in preferences. Lump sum taxes have among the highest welfare gains.
Effiency of the pension reform: the welfare effetcs of various fiscal closuresGRAPE
This document describes a model developed to analyze the welfare effects of different fiscal closures (ways of financing) for pension reforms in Poland. The model is an overlapping generations model that considers household optimization of consumption and leisure over a lifetime, as well as a production sector. The document outlines the baseline scenario, pension reform scenario, and three fiscal closure options analyzed: labor tax increases, lump sum taxes, and debt accumulation. Preliminary results suggest that while all reforms increase long run GDP and capital, a labor tax increase leads to the smallest reduction in labor supply and is most efficient according to a lump sum redistribution analysis.
This document analyzes the welfare effects of increasing the retirement age under different pension schemes (defined benefit, notional defined contribution, and fully funded) using overlapping generations models. The key findings are:
1) Increasing the retirement age leads to welfare gains for all cohorts under all pension schemes by increasing aggregate labor supply and lifetime earnings.
2) The sources of gains differ by pension scheme, for example in fully funded schemes it decreases capital per worker and increases interest rates.
3) Raising the retirement age reduces pension deficits, lowers taxes, and boosts pensions and welfare compared to baseline projections.
capital (income) taxation and pension system reformGRAPE
The paper studies the interaction between capital (income) taxation and pension system reform in the context of rising longevity. In an economy with idiosyncratic income shocks and uncertainty about life duration, defined benefit pension plans with redistribution (similar to the current US pension system) provide some insurance against these risks. The existing view in the literature states that the current pension system in the US introduces distortions to labor supply decisions and reduces capital accumulation, but reducing this distortion by the means of introducing (partially) funded defined contribution system involves loss of insurance and transitory fiscal gap, which dominate the benefits of reform. Prior financed the transitory costs of the reform by taxing consumption. We show that in the context of longevity, capital income taxation provides a superior alternative: welfare gains are sufficient to outweigh the loss of insurance and transitory funding costs. Our approach builds on optimal taxation literature: taxes should be levied on the least responsive tax base, and growing life expectancy raises incentives for capital accumulation. Further, higher risk exposure amplifies incentives for precautionary savings. These two mechanisms -- the rising longevity and the stronger precautionary motive -- make capital accumulation relatively less responsive to the tax hikes, thus reducing the dead-weight loss from increased taxation. In the long run, privatizing social security permits lower taxation, thus boosting capital income gains, accelerating capital accumulation, and economic progress. We reconcile our results with the earlier literature. We also study the political economy context and show that political support for capital income taxation is feasible.
Welfare effects of fiscal closures when implementing pension reformsGRAPE
This document discusses modeling pension reforms in Poland using an overlapping generations model. It aims to analyze the welfare effects of different fiscal closures used to finance gaps in the social insurance fund resulting from pension reforms. The model will examine five potential fiscal closures: lump sum taxes, labor taxes, consumption taxes, debt financing plus labor taxes, and debt financing plus consumption taxes. The results will help determine which fiscal closure has the best or worst effects on welfare, savings, labor supply, and economic output.
Fiscal incentives to pension savings -- are they efficient?GRAPE
Financing consumption of the elderly in the face of the projected increase in life expectancy is a key challenge for economic policy. Moreover, standard structural models with fully rational agents suggest that about 50-60 percent of old-age consumption is financed with voluntary savings, even in the presence of a fairly generous public pension system. This is clearly inconsistent with either the data, or the alarming simulations of old-age poverty in the years to come. Old-age saving (OAS) schemes are widely used policy instruments to address this challenge, but structural evaluations of such instruments remain rare. We develop a framework with incompletely rational agents: lacking financial literacy and experiencing commitment difficulties. We study a broad selection of OAS schemes and find that they raise welfare of financially illiterate agents and to a lesser extent improve welfare of agents with a high degree of time inconsistency. They also reduce the incidence of poverty at old age. Unfortunately, these instruments are fiscally costly, induce considerable crowd-out and direct fiscal transfers mostly to those agents, who need it the least.
Economic consequences of changing fertility. Insights from an OLG modelGRAPE
We want to use macro models to evaluate effects of differenet demographic scenarios
Demographics drives majority of the macroeconomic changes in the foreseeable future
Fiscal effects will be large and unavoidable but larger TFR can mitigate them
Strong (political) discussions about ways to prevent demographic catastrophe...
...but what is the adequate cost of family policy - even if successful?
Figures we obtain go beyond the simple calculations in Excel (forward looking agents)
Efficiency versus insurance: The role for fiscal policy in social security pr...GRAPE
This document discusses the role of fiscal policy in social security privatization. It motivates the need to reform pay-as-you-go defined benefit pension systems due to increasing longevity and decreasing fertility. While previous literature finds privatization reduces welfare due to loss of insurance, the authors argue this result depends on the fiscal closure used and consider different fiscal policies. They develop an overlapping generations model to compare 81 combinations of pension reforms and fiscal closures, examining the welfare and political support implications. New closures studied include taxes on capital income, progressive labor taxes, and adjustments within the pension system.
Efficiency versus insurance: Capital income taxation and privatizing social s...GRAPE
We study the interactions between capital income tax and social security privatization in the context of rising longevity. In an economy with idiosyncratic income shocks, redistributive defined benefit pay-as-you-go social security provides some insurance against income uncertainty. However, this redistribution makes social security contributions distortionary. Reforming such social security to (partially funded) defined contribution involves on the one hand loss of insurance, and on the other hand reduced distortions associated with contributions, and raised pension wealth. Furthermore, it necessitates fiscal adjustment: transition costs in the medium term and reduction in the overall taxation in the long term. The current view in the literature states that such reform would reduce welfare. We show that capital income taxation provides a superior alternative, especially in the case of longevity whereas compared to fiscal closures utilized in earlier studies attenuate them. We explain the mechanism behind this result and reconcile our results with the earlier literature.
This document summarizes a study that examines the welfare effects of increasing the retirement age under different pension schemes (defined benefit, notional defined contribution, and funded defined contribution) using overlapping generations models. It finds that increasing the retirement age leads to overall welfare gains in all schemes. The mechanisms through which welfare increases differ across schemes, with labor supply, pensions, taxes, and other macroeconomic variables changing to different degrees depending on the pension design. The study aims to better understand how macroeconomic effects and welfare impacts may vary when the retirement age is increased under different existing pension-benefit linkages.
Inequality in an OLG economy with heterogeneous cohorts and pension systemsGRAPE
The document analyzes how inequality changes in an overlapping generations economy with heterogeneous cohorts and pension systems. It finds that wealth and consumption inequalities increase due to demographic transitions and a pension reform from defined benefit to defined contribution systems. Minimum pensions can reduce inequality increases from the reform by 40-50% by raising incomes at the bottom, but have little effect on preferences. Contribution caps have a negligible impact on inequality. Overall, demographic changes contribute more to rising inequalities than the pension system reform.
Evaluating welfare and economic effects of raised fertilityGRAPE
In the context of second demographic transition many countries consider pro-natalistic policies as viable solutions to the fiscal pressure stemming from longevity and declining fertility. However, increased number of births implies immediate economic costs and delayed economic gains. Moreover, quantification of these gains remains a challenge. We develop an overlapping generations model with family structure and utilize this model to quantify the effects in the increases in birth rates. We show the overall welfare and macroeconomic effects as well as distribution of these effects across cohorts. We also show how the distribution of children across families affects those estimations for a given birth rate.
The Sooner The Better - The Welfare Effects of the Retirement Age Increase Un...GRAPE
This document summarizes a study that analyzes the macroeconomic and welfare effects of increasing the retirement age under different pension systems (defined benefit, notional defined contribution, and funded defined contribution). It finds that increasing the retirement age has universally positive welfare effects and increases aggregate labor supply. These effects are largest under a funded defined contribution system and enhanced when productivity increases with age. Various robustness checks considering alternative demographic and productivity assumptions confirm these overall conclusions.
On the optimal introduction of a funded pension pillarGRAPE
Jan Woźnica, Marcin Bielecki, Krzysztof Makarski and Joanna Tyrowicz Group for Research in APplied Economics (GRAPE)
15th International Pension Workshop
Paris, May 2017
Is the retirement age increase in Poland still necessary given the 1999 reform of the pension system? EmerytGRAPE analysis with the use of OLG model answers this question.
The shadow of longevity – does social security reform reduce gains from incre...GRAPE
This document summarizes a study that analyzes the macroeconomic and welfare effects of increasing the retirement age under different pension systems (defined benefit, notional defined contribution, and funded defined contribution). The study finds that increasing the retirement age is a universally efficient reform that improves welfare. Specifically:
1) Increasing the retirement age leads to higher aggregate labor supply, though individual labor supply may decrease for some.
2) Everyone gains from the reform, as beneficiaries receive higher pensions under defined contribution systems and taxpayers pay lower taxes to support defined benefit pensions.
3) While capital per worker decreases slightly, this is mostly due to a reduction in precautionary savings rather than true economic effects.
Welfare effects of fiscal policy in reforming the pension systemGRAPE
Joanna Tyrowicz, Olivia Komada and Krzysztof Makarski
Group for Research in APplied Economics (GRAPE)
15th International Pension Workshop
Paris, May 2017
This document summarizes a study that analyzes the macroeconomic and welfare effects of increasing the retirement age under different pension systems (defined benefit, notional defined contribution, and funded defined contribution). It finds that increasing the retirement age is universally welfare improving. Specifically, it leads to a decrease in average labor supply but an increase in aggregate labor supply. Capital and output per capita decrease due to lower savings. The positive welfare effects are enhanced when productivity increases with age.
Stimulating old-age savings under incomplete rationalityGRAPE
1) Government-subsidized voluntary old-age saving schemes reduce poverty and increase welfare compared to raising payroll taxes or reducing pension benefits alone under incomplete rationality.
2) However, the subsidies disproportionately benefit households who need them least.
3) While capital accumulation increases overall, crowd-out of private savings is large, limiting macroeconomic gains.
This document discusses using an overlapping generations model to analyze the welfare effects of different fiscal closure options for financing the pension reform in Poland in 1999. The reform transitioned the pension system from a defined benefit pay-as-you-go system to a combination of notional defined contribution and funded defined contribution systems. The model will compare the welfare effects across generations and over time for five different fiscal closure options to finance the gap created by contributions staying in the pay-as-you-go system. The analysis will provide insight into which fiscal closure option has the best effects on savings, labor supply, output, and overall welfare.
Inequalities in an OLG economy with heterogeneous cohorts and pension systemsGRAPE
1) A pension system reform from defined benefit to defined contribution in Poland would likely increase consumption inequalities but decrease wealth inequalities.
2) The demographic transition alone would increase consumption inequalities more than the pension reform.
3) Minimum pensions could reduce the rise in consumption inequality from the pension reform by around 40% by targeting those with lower incomes, but would slightly increase consumption by reducing savings incentives. The effects of contribution caps would be negligible.
Efficiency of the pension reform: The welfare effects of various fiscal closuresGRAPE
- The document discusses modeling the welfare effects of various fiscal closures (ways of financing) for a pension reform in Poland that moves from a defined benefit to a partially funded defined contribution system.
- It develops an overlapping generations model to compare steady states before and after the reform under different fiscal closures like lump sum taxes, labor taxes, consumption taxes, and debt.
- Preliminary results show the pension reform leads to small net welfare gains of around 0.5-1% of permanent income depending on the fiscal closure and degree of time inconsistency in preferences. Lump sum taxes have among the highest welfare gains.
Effiency of the pension reform: the welfare effetcs of various fiscal closuresGRAPE
This document describes a model developed to analyze the welfare effects of different fiscal closures (ways of financing) for pension reforms in Poland. The model is an overlapping generations model that considers household optimization of consumption and leisure over a lifetime, as well as a production sector. The document outlines the baseline scenario, pension reform scenario, and three fiscal closure options analyzed: labor tax increases, lump sum taxes, and debt accumulation. Preliminary results suggest that while all reforms increase long run GDP and capital, a labor tax increase leads to the smallest reduction in labor supply and is most efficient according to a lump sum redistribution analysis.
This document analyzes the welfare effects of increasing the retirement age under different pension schemes (defined benefit, notional defined contribution, and fully funded) using overlapping generations models. The key findings are:
1) Increasing the retirement age leads to welfare gains for all cohorts under all pension schemes by increasing aggregate labor supply and lifetime earnings.
2) The sources of gains differ by pension scheme, for example in fully funded schemes it decreases capital per worker and increases interest rates.
3) Raising the retirement age reduces pension deficits, lowers taxes, and boosts pensions and welfare compared to baseline projections.
capital (income) taxation and pension system reformGRAPE
The paper studies the interaction between capital (income) taxation and pension system reform in the context of rising longevity. In an economy with idiosyncratic income shocks and uncertainty about life duration, defined benefit pension plans with redistribution (similar to the current US pension system) provide some insurance against these risks. The existing view in the literature states that the current pension system in the US introduces distortions to labor supply decisions and reduces capital accumulation, but reducing this distortion by the means of introducing (partially) funded defined contribution system involves loss of insurance and transitory fiscal gap, which dominate the benefits of reform. Prior financed the transitory costs of the reform by taxing consumption. We show that in the context of longevity, capital income taxation provides a superior alternative: welfare gains are sufficient to outweigh the loss of insurance and transitory funding costs. Our approach builds on optimal taxation literature: taxes should be levied on the least responsive tax base, and growing life expectancy raises incentives for capital accumulation. Further, higher risk exposure amplifies incentives for precautionary savings. These two mechanisms -- the rising longevity and the stronger precautionary motive -- make capital accumulation relatively less responsive to the tax hikes, thus reducing the dead-weight loss from increased taxation. In the long run, privatizing social security permits lower taxation, thus boosting capital income gains, accelerating capital accumulation, and economic progress. We reconcile our results with the earlier literature. We also study the political economy context and show that political support for capital income taxation is feasible.
Welfare effects of fiscal closures when implementing pension reformsGRAPE
This document discusses modeling pension reforms in Poland using an overlapping generations model. It aims to analyze the welfare effects of different fiscal closures used to finance gaps in the social insurance fund resulting from pension reforms. The model will examine five potential fiscal closures: lump sum taxes, labor taxes, consumption taxes, debt financing plus labor taxes, and debt financing plus consumption taxes. The results will help determine which fiscal closure has the best or worst effects on welfare, savings, labor supply, and economic output.
Fiscal incentives to pension savings -- are they efficient?GRAPE
Financing consumption of the elderly in the face of the projected increase in life expectancy is a key challenge for economic policy. Moreover, standard structural models with fully rational agents suggest that about 50-60 percent of old-age consumption is financed with voluntary savings, even in the presence of a fairly generous public pension system. This is clearly inconsistent with either the data, or the alarming simulations of old-age poverty in the years to come. Old-age saving (OAS) schemes are widely used policy instruments to address this challenge, but structural evaluations of such instruments remain rare. We develop a framework with incompletely rational agents: lacking financial literacy and experiencing commitment difficulties. We study a broad selection of OAS schemes and find that they raise welfare of financially illiterate agents and to a lesser extent improve welfare of agents with a high degree of time inconsistency. They also reduce the incidence of poverty at old age. Unfortunately, these instruments are fiscally costly, induce considerable crowd-out and direct fiscal transfers mostly to those agents, who need it the least.
Economic consequences of changing fertility. Insights from an OLG modelGRAPE
We want to use macro models to evaluate effects of differenet demographic scenarios
Demographics drives majority of the macroeconomic changes in the foreseeable future
Fiscal effects will be large and unavoidable but larger TFR can mitigate them
Strong (political) discussions about ways to prevent demographic catastrophe...
...but what is the adequate cost of family policy - even if successful?
Figures we obtain go beyond the simple calculations in Excel (forward looking agents)
Efficiency versus insurance: The role for fiscal policy in social security pr...GRAPE
This document discusses the role of fiscal policy in social security privatization. It motivates the need to reform pay-as-you-go defined benefit pension systems due to increasing longevity and decreasing fertility. While previous literature finds privatization reduces welfare due to loss of insurance, the authors argue this result depends on the fiscal closure used and consider different fiscal policies. They develop an overlapping generations model to compare 81 combinations of pension reforms and fiscal closures, examining the welfare and political support implications. New closures studied include taxes on capital income, progressive labor taxes, and adjustments within the pension system.
Efficiency versus insurance: Capital income taxation and privatizing social s...GRAPE
We study the interactions between capital income tax and social security privatization in the context of rising longevity. In an economy with idiosyncratic income shocks, redistributive defined benefit pay-as-you-go social security provides some insurance against income uncertainty. However, this redistribution makes social security contributions distortionary. Reforming such social security to (partially funded) defined contribution involves on the one hand loss of insurance, and on the other hand reduced distortions associated with contributions, and raised pension wealth. Furthermore, it necessitates fiscal adjustment: transition costs in the medium term and reduction in the overall taxation in the long term. The current view in the literature states that such reform would reduce welfare. We show that capital income taxation provides a superior alternative, especially in the case of longevity whereas compared to fiscal closures utilized in earlier studies attenuate them. We explain the mechanism behind this result and reconcile our results with the earlier literature.
Eficiency versus insurance: The role for fiscal policy in social security pri...GRAPE
Pension system reforms imply substantial redistribution between cohorts and within cohorts. They also implicitly affect the scope of risk sharing in societies. Linking pensions to individual incomes increases efficiency but reduces the insurance motive implicit in Beveridgean systems. The existing view in the literature argues that the insurance motive dominates the efficiency gains when evaluating the welfare effects. We show that this result is not universal: there exist ways to increase efficiency or compensate the loss of insurance, assuring welfare gains from pension system reform even in economies with uninsurable idiosyncratic income shocks. The fiscal closure, which necessarily accompanies the changes in the pension system, may boost efficiency and/or make up for lower insurance in the pension system. Indeed, fiscal closures inherently interact with the effects of pension system reform, counteracting or reinforcing the original effects. By analyzing a variety of fiscal closures, we reconcile our result with the earlier literature. We also study the political economy context and show that political support is feasible depending on the fiscal closure
Efficiency versus insurance: The role for capital income taxation in social s...GRAPE
We study the interactions between capital income tax and social security in the context of longevity. On the one hand, taxing capital income gains reduces capital accumulation and slows down economic progress. On the other hand, increasing life expectancy raises incentives for capital accumulation, which makes capital relatively less responsive to the tax hikes. Under longevity, reforming social security from a defined benefit system to a defined contribution system limits the extent of fiscal imbalance in the long run, thus further raising efficiency.
The existing view in the literature states that the insurance motive dominates the efficiency gains when evaluating the welfare effects of social security reform with stochastic income shocks. We show, under plausible calibration of the US economy, that the efficiency gain resulting from the interaction of social security and capital income taxation in the context of longevity provide welfare gains sufficient to outweigh the loss of insurance. By analyzing a variety of fiscal closures, we reconcile our result with the earlier literature. We also study the political economy context and show that political support for capital income taxation is feasible.
The role for capital income taxation in social security privatizationGRAPE
Taxing capital or capital income is inefficient in a standard representative agent model. However, when choosing which tax to raise, an important concern is related to the elasticity of response to taxation. A growing body of the literature demonstrates that inter-temporal elasticity of substitution is quantitatively relevant for the magnitude of capital adjustment in response to capital taxation, hence affecting the size of the efficiency loss . For example, if agents have to save, optimal capital income tax is actually positive, as is the case in setups with idiosyncratic income shocks. With longer life expectancy, rational agents generally raise savings, which makes capital potentially an interesting candidate for taxation when longevity increases. In this paper, we study taxation of capital in the contexts of pension systems balance and reforms with particular attention devoted to the role of longevity.
This document discusses factors that shape wealth inequality in the US. It summarizes existing explanations for rising wealth inequality, including rising income inequality and insufficient redistribution. It also notes the observation of rising longevity. The authors aim to study the role of rising longevity for wealth inequality using an overlapping generations model that incorporates changing demographics, income inequality, tax policies, and other economic drivers from 1960-2020. The model calibrates preferences, income processes, and other parameters to replicate the US economy over this period.
Reforms of the pension system imply substantial redistribution between cohorts and within cohorts. They also implicitly affect the scope of risk sharing in the society. Making pensions linked to individual incomes, increases efficiency, but reduces the insurance motive implicit in Beveridgean systems. The existing view in the literature argues that the insurance motive dominates the efficiency gains when evaluating the welfare effects. We show that this result is not universal: there exist ways to increase efficiency or compensate the loss of insurance assuring welfare gains from the pension system reform even in the economy with uninsurable idiosyncratic income shocks. The fiscal closure, which necessarily accompanies the changes in the pension system, may boost efficiency and/or make up for lower insurance in the pension system. Indeed, fiscal closures inherently interact with the effects of the pension system reform, counteracting or reinforcing the original effects. By analyzing a variety of fiscal closures, we reconcile our result with the earlier literature. We also study the political economy context and show that political support is feasible depending on the fiscal closure.
Stimulating old-age savings under incomplete rationalityGRAPE
Fully rational agents respond to old-age savings incentives with complete crowing out, hence any effects of such incentives stem from second order general equilibrium adjustments. However, agents facing constraints in obtaining optimal savings profiles experience also first order effects, i.e. substantial changes to the lifetime profiles of assets accumulation. We develop a fully-fledged overlapping generations model with intra-cohort heterogeneity. In addition to fully rational agents, each generation has also agents with other types of preferences. In this economy we introduce a variety of tax incentivized old-age savings schemes with endogenous participation. We analyze macroeconomic and welfare effects of such instruments.
Demographic transition and the rise of wealth inequalityGRAPE
We study the contribution of rising longevity to the rise of wealth inequality in the U.S. over the last seventy years. We construct an OLG model with multiple sources of inequality, closely calibrated to the data. Our main finding is that improvements in old-age longevity explain about 30% of the observed rise in wealth inequality. This magnitude is similar to previously emphasized channels associated with income inequality and the tax system. The contribution of demographics is bound to raise wealth inequality further in the decades to come.
The document discusses political support for social security systems and reforms from defined benefit (DB) to funded defined contribution (FDC) plans. It reviews literature on three factors influencing political support: 1) existence of intergenerational transfers, 2) size of transfers, and 3) political economy of social contracts. The literature concludes social security becomes politically stable if initially feasible. The document then models a pension reform from DB to a hybrid DB-FDC system in Poland, examining the distribution of costs and gains and whether the FDC pillar becomes politically stable over time through majority voting.
Welfare effects of fiscal policy in reforming the pension systemGRAPE
Pension system reforms imply substantial redistribution between cohorts and within cohorts. They also implicitly affect the scope of risk sharing in societies. Linking pensions to individual incomes increases efficiency but reduces the insurance motive implicit in Beveridgean systems. The existing view in the literature argues that the insurance motive dominates the efficiency gains when evaluating the welfare effects. We show that this result is not universal: there exist ways to increase efficiency or compensate the loss of insurance, assuring welfare gains from pension system reform even in economies with uninsurable idiosyncratic income shocks. The fiscal closure, which necessarily accompanies the changes in the pension system, may boost efficiency and/or make up for lower insurance in the pension system. Indeed, fiscal closures inherently interact with the effects of pension system reform, counteracting or reinforcing the original effects. By analyzing a variety of fiscal closures, we reconcile our result with the earlier literature. We also study the political economy context and show that political support is feasible depending on the fiscal closure.
Efficiency versus insurance: The role for fiscal policy in social security pr...Oliwia Komada
Pension system reforms imply substantial redistribution between cohorts and within cohorts. They also implicitly affect the scope of risk sharing in societies. Linking pensions to individual incomes increases efficiency but reduces the insurance motive implicit in Beveridgean systems. The existing view in the literature argues that the insurance motive dominates the efficiency gains when evaluating the welfare effects. We show that this result is not universal: there exist ways to increase efficiency or compensate the loss of insurance, assuring welfare gains from pension system reform even in economies with uninsurable idiosyncratic income shocks. The fiscal closure, which necessarily accompanies the changes in the pension system, may boost efficiency and/or make up for lower insurance in the pension system. Indeed, fiscal closures inherently interact with the effects of pension system reform, counteracting or reinforcing the original effects. By analyzing a variety of fiscal closures, we reconcile our result with the earlier literature. We also study the political economy context and show that political support is feasible depending on the fiscal closure.
In the search for the optimal path to establish a funded pension systemGRAPE
This document discusses finding an optimal path to transitioning a pension system from a pay-as-you-go defined contribution system to a hybrid system that includes a funded defined contribution component. It presents an economic model of the transition and uses a genetic algorithm to search for transition paths that maximize the number of cohorts benefited while minimizing losses to the most negatively impacted cohorts. The results find paths that benefit 349 or 200 cohorts out of 399 total depending on whether generosity is specified at the year or cohort level. Robustness checks confirm the findings.
Political (in)stability of pension system reformOliwia Komada
We analyze the political stability of social security reforms that involve a funded pillar (a.k.a.privatizations of social security). We employ an overlapping generations model with intracohort heterogeneity. The (partial) privatization of social security is efficient in Kaldor-Hickssense and has political support. Subsequently, agents vote on abolishing the funded pillar, capturing the accumulated pension assets, and replacing it with the pay-as-you-go scheme,i.e. \unprivatizing" the pension system. We show that even if such reform reduces welfare in the long run, the distribution of benefits across cohorts along the transition path implies that \unprivatizing" social security is always politically preferred. We conclude that the correct assignment of property rights over retirement assets may be of crucial importance for
determining the stability of pensions systems with a funded pillar.
Welfare effects of fiscal policy in reforming the pension system - ASSA 2018 ...GRAPE
This document analyzes the welfare effects of fiscal policy reforms to pension systems. It challenges the view that pension system privatization reduces welfare in stochastic frameworks. The authors provide an overview of interactions between pension reforms and fiscal policies, and decompose the overall effect of reforms into changes in insurance and efficiency. Their results show that capital tax increases have the highest welfare gains due to improved efficiency, while progressive taxation has the smallest welfare losses due to maintaining insurance. They also find that reforms can improve welfare and gain political support, depending on the fiscal policies used. Insurance losses from reforms are important but not decisive factors when evaluating privatization.
We analyze political stability of social security that involves funding. We employ an overlapping generations model with intra-cohort heterogeneity. In this setup we introduce funding, which is efficient in Kaldor-Hicks sense and has majority political support. Subsequently, agents vote on capturing the accumulated pension assets, and replacing it with a pay-as-you-go scheme. We show that even if capturing assets reduces welfare in the long run, the distribution of benefits across cohorts living at the time of voting always yields sufficient political support for capturing assets i.e. unfunding pensions. We explain the mechanisms which yield this counter-intuitive result.
We analyze the political stability of capital funded social security. In particular, using a stylized theoretical framework we study the mechanisms behind governments capturing pension assets in order to lower current taxes. This is followed by an analysis of the analogous mechanisms in a fully-fledged overlapping generations model with intra-cohort heterogeneity. Funding is efficient in a Kaldor-Hicks sense. Individuals vote on capturing the accumulated pension assets and replacing the funded pension pillar with a pay-as-you-go scheme. We show that even if capturing assets reduces welfare in the long run, it always has sufficient political support from those alive at the moment of the vote.
Plenary session 3 3 tim smeeding stik iariwIARIW 2014
The document summarizes two papers presented at a conference on measuring inequality accounting for social transfers in kind. The first paper from Italy develops a new method for valuing national health services and incorporates adjustments for demographics and regional differences. This raises the estimated value of health subsidies for the poor. The second paper applies the US Supplemental Poverty Measure methodology to compare poverty in the US and Australia, finding that medical out-of-pocket expenses significantly impact poverty rates when accounted for as a resource. The paragraph asks whether thresholds used to measure poverty should also account for in-kind benefits included as resources to have a fully consistent measure of resources versus needs.
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Efficiency versus insurance: The role for fiscal policy in social security privatization
1. Efficiency versus insurance:
The role for fiscal policy in social security privatization
Joanna Tyrowicz (GRAPE, IAAEU, UW and IZA)
Oliwia Komada (GRAPE and WSE)
Krzysztof Makarski (GRAPE and WSE)
SNDE, Dallas, 2019
1 / 39
3. Motivation
• Longevity hazards DB viability: deficit ↑ 1.4% of GDP → reforms
Feldstein, BEA, SSA
• (Any) Reform of social security redistributes
• between generations −→ timing of costs vs gains
• within generations −→ insurance inherent to pension systems features
2 / 39
4. Motivation
• Longevity hazards DB viability: deficit ↑ 1.4% of GDP → reforms
Feldstein, BEA, SSA
• (Any) Reform of social security redistributes
• between generations −→ timing of costs vs gains
• within generations −→ insurance inherent to pension systems features
• Deterministic setup: horse-race between
• efficiency (+)
• fiscal cost of the transition period (–)
2 / 39
5. Motivation
• Longevity hazards DB viability: deficit ↑ 1.4% of GDP → reforms
Feldstein, BEA, SSA
• (Any) Reform of social security redistributes
• between generations −→ timing of costs vs gains
• within generations −→ insurance inherent to pension systems features
• Deterministic setup: horse-race between
• efficiency (+)
• fiscal cost of the transition period (–)
• Stochastic setup: insurance (–)
Nishiyama & Smetters (2007, QJE) and subsequent literature
2 / 39
6. Motivation
• Longevity hazards DB viability: deficit ↑ 1.4% of GDP → reforms
Feldstein, BEA, SSA
• (Any) Reform of social security redistributes
• between generations −→ timing of costs vs gains
• within generations −→ insurance inherent to pension systems features
• Deterministic setup: horse-race between
• efficiency (+)
• fiscal cost of the transition period (–)
• Stochastic setup: insurance (–)
Nishiyama & Smetters (2007, QJE) and subsequent literature
2 / 39
7. Motivation → contribution
Fiscal policy around the pension reform matters:
• counteracts / reinforces redistribution
• affects efficiency (scope of distortions)
3 / 39
8. Motivation → contribution
Fiscal policy around the pension reform matters:
• counteracts / reinforces redistribution
• affects efficiency (scope of distortions)
Literature keeps “low profile” on accompanying fiscal policy
We contribute by
• introducing new fiscal closures: boost efficiency + substitute insurance
• quantifying the role of the insurance motive
3 / 39
11. Literature differs in terms of financing the reform
• Financing within pension system
• contribution rates (20 papers)
Kumru & Thanopoulos (2011, JPE), Bruce & Turnovsky (2013, JPE)
• replacement rate (8 papers)
Boersch-Supan et al. (2014, AER), Kitao (2014, RED)
5 / 39
12. Literature differs in terms of financing the reform
• Financing within pension system
• contribution rates (20 papers)
Kumru & Thanopoulos (2011, JPE), Bruce & Turnovsky (2013, JPE)
• replacement rate (8 papers)
Boersch-Supan et al. (2014, AER), Kitao (2014, RED)
• Financing via fiscal policy
• labor tax (3 papers)
Bouzahzah et al. (2002, JEDC)
• consumption tax (10 papers)
Nishiyama & Smetters (2007, QJE), Diaz-Gimenez & Diaz-Saavedra (2009, RED)
• debt (5 papers )
Song, et al. (2015, AEJ) Lindbeck & Persson (2003, JEL)
5 / 39
13. Literature differs in terms of financing the reform
• Financing within pension system
• contribution rates (20 papers)
Kumru & Thanopoulos (2011, JPE), Bruce & Turnovsky (2013, JPE)
• replacement rate (8 papers)
Boersch-Supan et al. (2014, AER), Kitao (2014, RED)
• Financing via fiscal policy
• labor tax (3 papers)
Bouzahzah et al. (2002, JEDC)
• consumption tax (10 papers)
Nishiyama & Smetters (2007, QJE), Diaz-Gimenez & Diaz-Saavedra (2009, RED)
• debt (5 papers )
Song, et al. (2015, AEJ) Lindbeck & Persson (2003, JEL)
No papers with comparisons across fiscal closures
5 / 39
14. What we do: focus on fiscal policy for a given reform
• Scrutinize links between fiscal policy and pension system reform
• Propose new ways of financing the pensions system reform
• insurance → labor tax progression
• efficiency → capital income gains tax
• timing → smoothing reform cost with public debt
6 / 39
15. What we do: focus on fiscal policy for a given reform
• Scrutinize links between fiscal policy and pension system reform
• Propose new ways of financing the pensions system reform
• insurance → labor tax progression
• efficiency → capital income gains tax
• timing → smoothing reform cost with public debt
Preview of findings
• Nishiyama & Smetters is NOT universal → welfare ↑ in stochastic setup
• Labor tax progression mitigates insurance loss
• Capital income gains tax boost efficiency
6 / 39
16. What we do: focus on fiscal policy for a given reform
• Scrutinize links between fiscal policy and pension system reform
• Propose new ways of financing the pensions system reform
• insurance → labor tax progression
• efficiency → capital income gains tax
• timing → smoothing reform cost with public debt
Preview of findings
• Nishiyama & Smetters is NOT universal → welfare ↑ in stochastic setup
• Labor tax progression mitigates insurance loss
• Capital income gains tax boost efficiency
• Welfare gains and political support only sometimes overlap
• Public debt often “buys” political support
6 / 39
17. OLG model with income shocks, US
Procedure
Baseline: Redistributive PAYG DB
with aging → deficit
7 / 39
18. OLG model with income shocks, US
Procedure
Baseline: Redistributive PAYG DB
with aging → deficit
Reform: Individual DC, 50% funded
• 9 fiscal policies
• 2 pension system adjustments: contribution or benefits
• 7 fiscal closures: tax on labor income, consumption (with or without debt),
+ tax on capital income (w/ or wo/ debt) and progressive income tax
7 / 39
19. OLG model with income shocks, US
Procedure
Baseline: Redistributive PAYG DB
with aging → deficit
Reform: Individual DC, 50% funded
• 9 fiscal policies
• 2 pension system adjustments: contribution or benefits
• 7 fiscal closures: tax on labor income, consumption (with or without debt),
+ tax on capital income (w/ or wo/ debt) and progressive income tax
• government may behave differently in B and R → 81 combinations
7 / 39
20. OLG model with income shocks, US
Procedure
Baseline: Redistributive PAYG DB
with aging → deficit
Reform: Individual DC, 50% funded
• 9 fiscal policies
• 2 pension system adjustments: contribution or benefits
• 7 fiscal closures: tax on labor income, consumption (with or without debt),
+ tax on capital income (w/ or wo/ debt) and progressive income tax
• government may behave differently in B and R → 81 combinations
• compare welfare effect and political support
7 / 39
21. OLG model with income shocks, US
Procedure
Baseline: Redistributive PAYG DB
with aging → deficit
Reform: Individual DC, 50% funded
• 9 fiscal policies
• 2 pension system adjustments: contribution or benefits
• 7 fiscal closures: tax on labor income, consumption (with or without debt),
+ tax on capital income (w/ or wo/ debt) and progressive income tax
• government may behave differently in B and R → 81 combinations
• compare welfare effect and political support
• decompose welfare change into insurance and efficiency
7 / 39
23. Model
Consumers
• uncertain lifetimes: live for 16 periods, with survival rate πj,t < 1
unintended bequest redistributed within a cohort
• uninsurable earnings risk: endogenous labor supply + income shocks
process that follows AR(1) approximated by Markov chain
8 / 39
24. Model
Consumers
• uncertain lifetimes: live for 16 periods, with survival rate πj,t < 1
unintended bequest redistributed within a cohort
• uninsurable earnings risk: endogenous labor supply + income shocks
process that follows AR(1) approximated by Markov chain
• pay taxes (labor, consumption, capital gains) & contribute to pensions
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25. Model
Consumers
• uncertain lifetimes: live for 16 periods, with survival rate πj,t < 1
unintended bequest redistributed within a cohort
• uninsurable earnings risk: endogenous labor supply + income shocks
process that follows AR(1) approximated by Markov chain
• pay taxes (labor, consumption, capital gains) & contribute to pensions
• no annuity financial markets with (risk free) interest rate
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26. Model
Consumers
• uncertain lifetimes: live for 16 periods, with survival rate πj,t < 1
unintended bequest redistributed within a cohort
• uninsurable earnings risk: endogenous labor supply + income shocks
process that follows AR(1) approximated by Markov chain
• pay taxes (labor, consumption, capital gains) & contribute to pensions
• no annuity financial markets with (risk free) interest rate
Competitive producers
• Cobb-Douglas production function
• capital depreciation rate d
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34. Fiscal policy accompanying the reform
• Three new closures details
• progressive labor tax → labor supply
• capital income gain tax (+ debt) → capital accumulation
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35. Fiscal policy accompanying the reform
• Three new closures details
• progressive labor tax → labor supply
• capital income gain tax (+ debt) → capital accumulation
• Two closures within pension system details
• contributions → labor supply
• pensions → consumption (of retirees)
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36. Fiscal policy accompanying the reform
• Three new closures details
• progressive labor tax → labor supply
• capital income gain tax (+ debt) → capital accumulation
• Two closures within pension system details
• contributions → labor supply
• pensions → consumption (of retirees)
• Four closures outside pension system details
• consumption tax (+ debt) → consumption
• labor tax (+ debt) → labor supply
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38. Calibration to replicate US economy (2015)
Preferences
• Preference for leisure φ matches average hours 33%
• Discounting rate δ matches interest rate 4%
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39. Calibration to replicate US economy (2015)
Preferences
• Preference for leisure φ matches average hours 33%
• Discounting rate δ matches interest rate 4%
Idiosyncratic productivity shock based on Kruger and Ludwig (2013):
• Persistence η = 0.95
• Variance ση = 0.375
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40. Calibration to replicate US economy (2015)
Preferences
• Preference for leisure φ matches average hours 33%
• Discounting rate δ matches interest rate 4%
Idiosyncratic productivity shock based on Kruger and Ludwig (2013):
• Persistence η = 0.95
• Variance ση = 0.375
Pension system
• Replacement rate ρ matches benefits as % of GDP 5.2%
• Contribution rate balances pension system in the initial steady state
• Pension eligibility age at 65
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41. Calibration to replicate US economy (2015)
Preferences
• Preference for leisure φ matches average hours 33%
• Discounting rate δ matches interest rate 4%
Idiosyncratic productivity shock based on Kruger and Ludwig (2013):
• Persistence η = 0.95
• Variance ση = 0.375
Pension system
• Replacement rate ρ matches benefits as % of GDP 5.2%
• Contribution rate balances pension system in the initial steady state
• Pension eligibility age at 65
Taxes {τc, τl, τk} match revenue as % of GDP {9.2%, 3.8%, 3.6%}
Depreciation rate d matches investment rate of 25%
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42. Calibration to replicate US economy (2015)
Demography is based on UN projections.
number of 20-year-olds mortality rates
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44. No reform: deficit ↑
Adjustment in pension parameters
contribution rate ↑ from 7.8% to 9%
tax on pensions ↑ from 0.0% to 17.3%
Adjustment in fiscal parameters
pension system deficit ↑
by 1pp of GDP
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45. Funding the reform requires 2% of GDP (temporarily)
capital labor
Pension system deficit temporary ↑ from 0% to 2% of GDP
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46. Major effects of the reforming
Pensions linked to contributions
1. reduced labor supply distortion (efficiency ↑)
2. income shocks carry over to retirement (insurance ↓ )
Intuition: fiscal policy can reinforce or attenuate these effects
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47. Major effects of the reforming
Pensions linked to contributions
1. reduced labor supply distortion (efficiency ↑)
2. income shocks carry over to retirement (insurance ↓ )
Intuition: fiscal policy can reinforce or attenuate these effects
Eventually taxes decline
(relative to baseline scenario of permanent pension system deficit)
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48. Result 1: insurance is small & efficiency is large
capital tax: the highest welfare gain due
to efficiency
progression: the smallest welfare loss
due to insurance
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49. Result 2: loss of insurance important but not decisive
τk has larger gain than τc → positive overall welfare effect
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50. Result 3: public debt helps gaining political support
Welfare effect – τk
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51. Result 3: public debt helps gaining political support
Welfare effect - τk & debt + τk
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52. Result 3: public debt helps gaining political support
Welfare effect - transition - τk & debt + τk
actual adjustments
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54. Aggregate welfare effects and political support
Fiscal closure Baseline
τk d + τk prog. τ τb τc d + τc τl d + τl
Reform
τk 0.57 0.56 1.01 0.59 0.50 0.65 0.65 0.65 0.66
d + τk 0.54 0.54 0.99 0.56 0.47 0.63 0.63 0.63 0.64
prog. -0.45 -0.45 0.02 -0.13 -0.07 -0.35 -0.35 -0.36 -0.34
τ -0.13 -0.12 0.35 0.09 0.14 -0.03 -0.02 -0.03 -0.01
τb -0.15 -0.14 0.33 0.07 0.13 -0.05 -0.04 -0.05 -0.03
τc -0.14 -0.14 0.33 0.11 0.17 -0.04 -0.03 -0.05 -0.03
d + τc -0.16 -0.16 0.31 0.09 0.15 -0.07 -0.06 -0.07 -0.05
τl -0.46 -0.46 0.01 -0.11 -0.03 -0.36 -0.35 -0.37 -0.35
d + τl -0.45 -0.45 0.01 -0.1 -0.02 -0.36 -0.35 -0.36 -0.35
• τk is always a good idea
• prog. (almost) always better then τl in the reform
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55. Aggregate welfare effects and political support
Fiscal closure Baseline
τk d + τk prog. τ τb τc d + τc τl d + τl
Reform
τk 0.57 0.56 1.01 0.59 0.50 0.65 0.65 0.65 0.66
d + τk 0.54 0.54 0.99 0.56 0.47 0.63 0.63 0.63 0.64
prog. -0.45 -0.45 0.02 -0.13 -0.07 -0.35 -0.35 -0.36 -0.34
τ -0.13 -0.12 0.35 0.09 0.14 -0.03 -0.02 -0.03 -0.01
τb -0.15 -0.14 0.33 0.07 0.13 -0.05 -0.04 -0.05 -0.03
τc -0.14 -0.14 0.33 0.11 0.17 -0.04 -0.03 -0.05 -0.03
d + τc -0.16 -0.16 0.31 0.09 0.15 -0.07 -0.06 -0.07 -0.05
τl -0.46 -0.46 0.01 -0.11 -0.03 -0.36 -0.35 -0.37 -0.35
d + τl -0.45 -0.45 0.01 -0.1 -0.02 -0.36 -0.35 -0.36 -0.35
• τk is always a good idea
• prog. (almost) always better then τl in the reform
• little effect of debt on welfare
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56. Aggregate welfare effects and political support
Fiscal closure Baseline
τk d + τk prog. τ τb τc d + τc τl d + τl
Reform
τk 0.57 0.56 1.01 0.59 0.50 0.65 0.65 0.65 0.66
d + τk 0.54 0.54 0.99 0.56 0.47 0.63 0.63 0.63 0.64
prog. -0.45 -0.45 0.02 -0.13 -0.07 -0.35 -0.35 -0.36 -0.34
τ -0.13 -0.12 0.35 0.09 0.14 -0.03 -0.02 -0.03 -0.01
τb -0.15 -0.14 0.33 0.07 0.13 -0.05 -0.04 -0.05 -0.03
τc -0.14 -0.14 0.33 0.11 0.17 -0.04 -0.03 -0.05 -0.03
d + τc -0.16 -0.16 0.31 0.09 0.15 -0.07 -0.06 -0.07 -0.05
τl -0.46 -0.46 0.01 -0.11 -0.03 -0.36 -0.35 -0.37 -0.35
d + τl -0.45 -0.45 0.01 -0.1 -0.02 -0.36 -0.35 -0.36 -0.35
• τk is always a good idea
• prog. (almost) always better then τl in the reform
• little effect of debt on welfare
• debt ’buys’ support (for good and bad reforms)
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57. Summary
The same reform produces different effects depending on fiscal policy:
• efficiency effects of fiscal policy can be big
• insurance loss can effectively be substituted and is not very large
• smoothing by public debt buys political support
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58. Summary
The same reform produces different effects depending on fiscal policy:
• efficiency effects of fiscal policy can be big
• insurance loss can effectively be substituted and is not very large
• smoothing by public debt buys political support
Features of this literature
• Labor has a roughly 10% response to reduced l.m. distortions
do people really “understand” the link between contributions and pensions
• Savings have a roughly 10% reaction to longevity
do people really “understand” the risk of old-age poverty
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59. Where we get from here?
Work in progress:
• AIME + OADSI rather than fully redistributive DB
• Continuous income tax progression (e.g. Benabou, 2002)
• Analyze separately effects of longevity and reform
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60. Where we get from here?
Work in progress:
• AIME + OADSI rather than fully redistributive DB
• Continuous income tax progression (e.g. Benabou, 2002)
• Analyze separately effects of longevity and reform
Why is capital tax so nice? −→ relatively less responsive to the tax hikes
• Longevity → capital accumulation ↑
• Funded pillar → capital accumulation ↑
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61. Where we get from here?
Work in progress:
• AIME + OADSI rather than fully redistributive DB
• Continuous income tax progression (e.g. Benabou, 2002)
• Analyze separately effects of longevity and reform
Why is capital tax so nice? −→ relatively less responsive to the tax hikes
• Longevity → capital accumulation ↑
• Funded pillar → capital accumulation ↑
Preliminary results:
• Longevity is the main driver of changes in the economy
• Capital tax better than consumption tax under longevity
• Without longevity funding and DC reduce welfare regardless of fiscal closure
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62. Thank you and
I am happy to take questions!
w: grape.org.pl
t: grape org
f: grape.org
e: j.tyrowicz@grape.org.pl
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63. New fiscal closures: capital income gain tax
GO BACK
• capital income gain tax, τk,t
Tt = τl,t(1 − τt)wtLt + τk,trtAt + τc,tCt + Υt
J
j=1
Nj,t
Gt + subsidyt + rtDt = Tt + ∆Dt
• smoothing tax adjustments with public debt
• part of the costs of the reform shifted to the future generations
• fiscal rule
τk,t = (1 − )τfinal
k + τk,t−1 + D
Dt
Yt
−
D
Y
final
• debt in the final steady state the same as in the initial steady state
64. New fiscal closures: labor tax progression
GO BACK
• tr1 the lowest income threshold
• trn is the highest income threshold
• n is the number of income brackets
• m is a tax multiplier such that τi
l,t = τ0
l,t ∗ mi
65. New fiscal closures: labor tax progression
GO BACK
• tr1 the lowest income threshold
• trn is the highest income threshold
• n is the number of income brackets
• m is a tax multiplier such that τi
l,t = τ0
l,t ∗ mi
• Income threshold is multiple of average labor income, (1 − τt)wt
¯lt.
• In the initial steady state m = 1
• In the transition path m = 1.15 and n = 4
66. New fiscal closures: labor tax progression
Total gross labor income (1 − τt)wtLt is a sum of n + 1 components: earnings taxed
by one of n + 1 tax rate.
L
0
t =
¯J
j=1
Nj,t
Ω
min(ωj,t(sj,t)lj,t(sj,t), tr1)dPj,t
L
i
t =
¯J
j=1
Nj,t
Ω
max(min(ωj,t(sj,t)lj,t(sj,t − tr1), tri − tri−1), 0)dPj,t∀i = 1, ..., n
τ
0
l,t =
Gt + subsidyt + ∆Dt − Υ1
J
j=1 Nj,t − τc,1Ct − τk,1rtAt − n
i=0 Li
tτi
l
n
i=0 Li
t
τ
i
l,1 = m
i
∗ τ
0
l,1
67. Fiscal closures within pension system, subsidyt = 0
GO BACK
To keep pension system balanced government may adjust:
• contribution rate τ
• benefits bj (as a tax on benefits)
J
j= ¯Jt
Nj,t(1 − τb,t)bj,t = τt ¯wtLt and subsidyt = 0
68. Fiscal closures outside pension system, subsidyt = 0
GO BACK
• consumption tax, τc,t
• labor tax, τl,t
Tt = τl,t(1 − τt)wtLt + τk,trtAt + τc,tCt + Υt
J
j=1
Nj,t
Gt + subsidyt + rtDt = Tt + ∆Dt
• smoothing tax adjustments with public debt via a fiscal rule: ∀tax ∈ {l, c}
τtax,t = (1 − )τfinal
tax + τtax,t−1 + D (D/Y )t − (D/Y )final
• public debt in the final steady state = the initial steady state
69. Profile of average consumption for τk closure
other closures GO BACK
in line with Gourinchas & Parker (2002, Econometrica)
77. Model solving
GO BACK
• Gauss-Seidel iterative algorithm
• Guess an initial value for k = K/(zL) and compute prices
• Solve individual problem and aggregate it to find new K and L , thus k
• iterate until convergence
78. Model solving
GO BACK
• Gauss-Seidel iterative algorithm
• Guess an initial value for k = K/(zL) and compute prices
• Solve individual problem and aggregate it to find new K and L , thus k
• iterate until convergence
• Consumer problem (backward policy function iterations)
79. Model solving
GO BACK
• Gauss-Seidel iterative algorithm
• Guess an initial value for k = K/(zL) and compute prices
• Solve individual problem and aggregate it to find new K and L , thus k
• iterate until convergence
• Consumer problem (backward policy function iterations)
• implicit tax to reduce state space, Butler (2002)
• policy function iterations with picewise linear interpolation
• within period problem solved with Newton-Raphson
• given initial distribution at age j = 1, transition matrix for idiosyncratic
productivity and the policy functions compute the distribution in any successive
age j.
• aggregation done with Gaussian quadrature
80. Model solving
GO BACK
• Gauss-Seidel iterative algorithm
• Guess an initial value for k = K/(zL) and compute prices
• Solve individual problem and aggregate it to find new K and L , thus k
• iterate until convergence
• Consumer problem (backward policy function iterations)
• implicit tax to reduce state space, Butler (2002)
• policy function iterations with picewise linear interpolation
• within period problem solved with Newton-Raphson
• given initial distribution at age j = 1, transition matrix for idiosyncratic
productivity and the policy functions compute the distribution in any successive
age j.
• aggregation done with Gaussian quadrature
• Transition path, goes between the initial and final steady state