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Endogenous debt constraints in a life-cycle model with an application to social security

David Andolfatto () and Martin Gervais ()

Journal of Economic Dynamics and Control, 2008, vol. 32, issue 12, 3745-3759

Abstract: This paper develops a simple life-cycle model that embeds a theory of debt restrictions based on the existence of inalienable property rights a la Kehoe and Levine [1993. Debt constrained asset markets. Review of Economic Studies 60(4), 865-888; 2001. Liquidity constrained markets versus debt constrained markets. Econometrica 69(3), 575-598]. In our environment, net debtors have the option of defaulting on unsecured debt at the cost of being subjected to wage garnishment and/or having some or all of their future assets seized by creditors. One advantage of our framework is that it encompasses two standard versions of the life-cycle model: one with perfect capital markets and one with a non-negative net-worth restriction. We study the impact of a payroll financed social security system to illustrate the role of endogenous debt constraints and compare our results to a model with exogenous debt constraints. Whereas the aggregate effects are similar under both types of constraints, the distributional consequences are found to be significantly different across debt regimes.

Keywords: Life-cycle; Debt; constraints; Social; security (search for similar items in EconPapers)
Date: 2008
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Handle: RePEc:eee:dyncon:v:32:y:2008:i:12:p:3745-3759