Designing Pension Plans According to Consumption-Savings Theory

Kathrin Schlafmann, Ofer Setty and Roine Vestman

No 17489, CEPR Discussion Papers from C.E.P.R. Discussion Papers

Abstract: We derive optimal characteristics of contribution rates into defined contribution pension plans based on consumption savings theory. Contribution rates should be age-dependent and adjust to the balance-to-income ratio. Using detailed registry data on household savings behavior in Sweden we show that individuals adjust savings rates according to these principles. We apply these principles in a quantitative model to design an optimal rule for contribution rates in a mandatory defined-contribution pension plan. Compared to typical rigid designs of contribution rates, our proposed design leads to the same average replacement rate and provides liquidity benefits and insurance against income shocks. The design implies a welfare gain of 1.8 percent in consumption equivalent and reduces the dispersion of replacement rates by more than 40 percent. Our design is robust to time-inconsistent investors.

Keywords: Age-based investing; Life-cycle model; Pension plan design (search for similar items in EconPapers)
JEL-codes: D91 E21 G11 H55 (search for similar items in EconPapers)
Date: 2022-07
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