Time-Inconsistent Preferences and the Welfare Effects of Financing Unfunded Social Security With Consumption Taxation
Date of Award
Master of Science (MS)
Economics and Finance
T. Scott Findley
T. Scott Findley
A sizable body of evidence suggests that individuals make retirement preparation plans for the future, but then they persistently fail to follow through and prepare adequately to fund their retirement. In parallel, observational and experimental evidence suggests that people discount the future hyperbolically, and a hyperbolic discount function leads to inadequate preparation for retirement in modeling applications. In this paper, I construct a life-cycle model of consumption, saving, and intensive labor supply in which the representative individual possesses a hyperbolic discount function. The model exhibits time-inconsistent dynamic optimization as the individual persistently formulates, breaks, and then re-formulates consumption, saving, and labor supply plans for the future, thus leading to lower levels of accumulated savings for retirement compared to what was planned originally. Because social security programs are commonly justified on grounds of helping to provide resources in retirement, I study the question of whether or not a revenue-neutral social security program that is financed via consumption taxation might improve well-being compared to the status quo of a payroll-tax financed program (like what is currently operated in most advanced economies). I find and report that the gains to well-being can be sizable for a large set of the parameter space that is studied, although notable cases exist in which welfare losses can be incurred.
Sorensen, Emily E., "Time-Inconsistent Preferences and the Welfare Effects of Financing Unfunded Social Security With Consumption Taxation" (2023). All Graduate Plan B and other Reports. 1724.
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