Life cycle consumption and portfolio choice under real interest rate risk

Marcel Fischer and Natascha Jankowski

No 291, arqus Discussion Papers in Quantitative Tax Research from arqus - Arbeitskreis Quantitative Steuerlehre

Abstract: We set up a life cycle model with real interest rate risk to demonstrate that real interest rates have implications for optimal household consumption and investments. Lower interest rates lead to higher optimal stock investments and lower consumption. Ignoring the time-varying nature of real interest rates leads to overconsumption and underinvestment into stocks when interest rates are high and, ultimately, substantial welfare costs. Being exposed to an extended period of low interest rates even leads to substantial welfare losses when behaving optimally - particularly when being exposed to it at around retirement age when savings peak.

Keywords: consumption-savings decisions; real interest rate risk; life cycle model; household finance (search for similar items in EconPapers)
JEL-codes: E21 G11 G51 (search for similar items in EconPapers)
Date: 2025
New Economics Papers: this item is included in nep-dge
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Persistent link: https://EconPapers.repec.org/RePEc:zbw:arqudp:323203

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