By Axel H. Börsch-Supan (Max Planck Society for the Advancement of the Sciences – Munich Center for the Economics of Aging (MEA)), Klaus Härtl (Max Planck Society for the Advancement of the Sciences – Munich Center for the Economics of Aging (MEA)), Duarte Nuno Leite (Max Planck Institute for Social Law and Social Policy; Universidade do Porto – CEF.UP – Center for Economics and Finance at UP) & Alexander Ludwig (Goethe University Frankfurt – Research Center SAFE; University of Cologne – Faculty of Management, Economics and Social Sciences)

We propose a unified framework to measure the effects of different reforms of the pension system on retirement ages and macroeconomic indicators in the face of demographic change. A rich overlapping generations (OLG) model is built and endogenous retirement decisions are explicitly modeled within a public pension system. Heterogeneity with respect to consumption preferences, wage profiles, and survival rates is embedded in the model. Besides the expected direct effects of these reforms on the behavior of households, we observe that feedback effects do occur. Results suggest that individual retirement decisions are strongly influenced by numerous incentives produced by the pension system and macroeconomic variables, such as the statutory eligibility age, adjustment rates, the presence of a replacement rate, and interest rates. Those decisions, in turn, have several impacts on the macro-economy which can create feedback cycles working through equilibrium effects on interest rates and wages. Taken together, these reform scenarios have strong implications for the sustainability of pension systems. Because of the rich nature of our unified model framework, we are able to rank the reform proposals according to several individual and macroeconomic measures, thereby providing important support for policy recommendations on pension systems.

Source: SSRN