When health affects income (and vice versa): Policy transmission in a heterogeneous agent life-cycle model

Pablo Garcia Sanchez () and Olivier Pierrard ()

No 200, BCL working papers from Central Bank of Luxembourg

Abstract: Both health and wealth are distributed heterogeneously across the population. These two dimensions are empirically linked by a robust positive correlation between income and life expectancy. Yet the mechanisms underlying this link and the implications for economic policy remain incompletely understood. This paper develops a life-cycle model with heterogeneous agents to explore the bidirectional relationship between income and health: higher income enables greater health investment, while better health enhances productivity and therefore earnings. We calibrate the model to U.S. data, capturing key empirical aspects of the distribution of income, health and age-at-death. We show that the income-tohealth channel is more important early in life, while the health-to-income channel dominates at older ages. We then use this framework to evaluate policies aimed at redistribution or health. We find that income redistribution, while reducing inequality, weakens individuals’ incentives to invest in health, lowering both average life expectancy and aggregate income. In contrast, health subsidies enhance health, raising both longevity and economic output, without reducing income inequality.

Keywords: Health; Income; heterogeneity; life-cycle model; policies. (search for similar items in EconPapers)
JEL-codes: C60 D15 H24 H51 I12 I14 (search for similar items in EconPapers)
Pages: 51 pages
Date: 2025-09
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Persistent link: https://EconPapers.repec.org/RePEc:bcl:bclwop:bclwp200

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