Loretti I. Dobrescu, Fedor Iskhakov

This projects investigates the mutual transfers of pecuniary and non-pecuniary resources between parents and children in the later part of the parents' life. We are particularly interested in how savings and bequest decisions by the parents which are made in the presence of health shocks, interact with labour supply and consumption decisions of the children who may choose to allocate fractions of their time to providing informal care for their parents. For the families with several children we consider both the case when they act collectively, and the case when children engage in strategic interactions.

Commencement: 2012

Completion:

Craig Blackburn, Katja Hanewald, Annamaria Olivieri, Michael Sherris

This paper investigates the impact of longevity risk management on shareholder value and solvency for an insurer issuing life annuities using a multi-period stochastic mortality model with both systematic and idiosyncratic longevity risk. The shareholder value is determined using both an economic balance sheet and a Market-Consistent Embedded Value approach. Frictional costs as well as the limited liability put option value of the insurer are included. The value of the risk management strategies allows for costs for transferring longevity risk, regulatory capital requirements, capital relief, market frictions, agency costs, and financial distress costs. Policyholders' price-default-demand elasticity is used to determine product market premiums. Risk management strategies allow for capital management, reinsurance with a longevity swap and securitization through a longevity bond. The reinsurance is indemnity based-covering both systematic and idiosyncratic mortality risk, whereas securitization is index-based and only covers systematic mortality risk. Capital management is based on a recapitalization strategy to maintain regulatory capital requirements provided the insurer is solvent. Longevity risk management strategies reduce volatility and frictional costs. However, costs outweigh benefits and the reduced profitability of the insurer results in increased insolvency risk in later years.

Commencement : 2011

Completion: October 2012   

Hazel Bateman, Ralph Stevens, Fedor Iskhakov, Christine Eckert, John Geweke, Jordan Louviere and Susan Thorp (all CenSoc, UTS), Andy Lai (Taylor Fry Consulting), Stephen Satchell (University of Cambridge, UK), Julie Agnew (College of William and Mary, USA)

Recent developments in retirement incomes arrangements around the world mean more complex financial choices for retirement savers and pension plan members. Individuals under the increasingly prevalent defined contributions retirement income arrangements must consider: Whether to participate? Which pension fund? How much to contribute? Which investment options(s)? Whether and from whom to seek financial advice? And whether to draw out savings as a lump sum and/or purchase an income stream product (or products).

This research, primarily funded by the five year ARC Discovery Grant "The paradox of choice: unravelling complex superannuation decisions", has been written up in CEPAR Working Papers, Easy as Pie and Financial Literacy and Retirement Planning in Australia.

Commencement: 2011

Completion: 2012

John Piggott, Renuka Sane

Many countries have policies offering transfers or other entitlements, subject to a resources test. In most cases, these exempt the family home. While the impacts of means-tested programs on saving and labor supply have been extensively studied, exempting the owner-occupier home has escaped analytic attention. This project aims at assessing the exemption of the owner-occupied home from the Australian age-pension on residential mobility and housing trade-downs. Results suggest that this provision discourages trade-down behaviour. This research has been written up as a CEPAR Working Paper.

Commencement : 2010

Completion: 2012 

Fedor Iskhakov, John Rust (University of Maryland), Bertel Schjerning (University of Copenhagen)

This project develops a new method of solving computationally demanding life-cycle models involving simultaneous discrete and continuous choices. Computational tractability has always been a limiting factor in studying realistic models of this class, resulting in oversimplification and limited policy relevance. A typical focus of life-cycle models is the retirement choice, where the dynamic nature of the decisions made by people approaching retirement is very evident. Retirement choices are usually modelled within a discrete choice framework, and most studies disregard the underlying choices of consumption and savings. By moving the boundary of computational tractability, this project will facilitate the development of more realistic and accurate dynamic models of retirement choices. In 2012 the algorithm was fully developed and implemented as a generic computer program that can be easily adjusted for various model specifications. The method was applied and tested in several applications. The latest version of the code is available in the public domain. The remaining work on the project will include more detailed study of the accuracy of solutions produced by the method. This project is expected to produce a paper aimed at publication in a peer-reviewed top rated international economics journal, along with a software package for solving sequential discrete-continuous choice models.

Commencement: 2011

Completion:

Elena Capatina, Olena Stavrunova

Adverse health shocks, both physical and mental, can lead to  sharp declines in individuals' accumulated physical and cognitive skills. These declines imply lower abilities to perform different job tasks, and can therefore lead to a mismatch between workers' skills and occupational requirements. The mismatch in turn leads to lower productivities or complete inability to perform in the current occupation, and is therefore a potential important factor in occupational mobility decisions. Also, since the probability of health shocks increases with age, population aging is likely to have implications for overall occupational mobility through this channel. In this project, we document the importance of health shocks for occupational mobility using data from the Panel Study of Income Dynamics(PSID).

In addition, we study patterns in workers' specific occupational skill requirements induced by changes in health status using data from the Dictionary of Occupational Titles (DOT). We then construct a model of individual labour supply and occupational mobility decisions where agents with different specific skills select occupations with different requirements, accumulate general and occupation specific human capital as they work, and face health risks associated with declines in specific skills. We show that the patterns of occupational mobility in the PSID are consistent with the model predictions.  Finally, we use the model to determine how various programs such as employer health insurance, disability insurance and government skill training programs affect the efficiency of occupational choices of workers experiencing health shocks, drawing welfare implications associated with reforms in these programs.

Commencement : 2012

Completion:

Olena Stavrunova, Mike Keane

This project will study the factors that influence health insurance choices by senior citizens using both U.S. and Australian data. A number of recent studies have shown that senior citizens have difficulty making decisions about health insurance. One aim of this project is to extend traditional economic models of insurance demand to include non-traditional factors like cognitive ability, uncertainty about plan attributes, and confusion in making choices. Another aim is to extend existing models by focusing more on waiting lists as a determinant of demand for private insurance. Reducing public hospital waiting times is a central issue in the Australian health care debate. Both subsidies to private health insurance and increased expenditures to shorten waiting times have been proposed as ways to ease pressure on the public hospital system. This project will develop an empirical model of the impact of waiting times on insurance demand to evaluate the effectiveness of alternative policies to reduce waiting times.

Commencement : 2012

Completion:

Elisabetta Magnani, Rong Zhu

Returns to education in China have increased dramatically since the early 1990s from only 4.0 percent per year of schooling in 1988 to 10.2 percent in 2001. Most of the rise in the returns to education reflected an increase in the wage premium for higher education. The timing and regional pattern of changing schooling returns suggest that they were influenced strongly by institutional reforms in the labor market that increased the demand for skilled labor. The scope of this project is to investigate how these deep labour market changes have impacted Chinese intra-household decision makings in relation to resource allocation. In particular, we analyze the evolution of intra-household intergeneration transmission of human capital between 1980 and the present. We focus on recent econometric advances to disintangle the role of "nurture" and "nature" and analyze how the nurturing role of parents may be enhanced by the presence of co-living elders.

Commencement: 2013

Completion:

Mike Keane, Elena Capatina, Shiko Maruyama

One's physical and economic well-being at older ages is largely the consequence of investments in health and human capital that one makes over the whole life cycle. This project develops models of how people make life-cycle decisions regarding investment in health and human capital. It is important to consider these issues jointly, as a large literature suggests that human capital (and the income that it generates) affects health, and vice-versa. However the magnitudes of these effects are very controversial. Using our model, we develop new methods to address the difficult question of how income affects health.  

Commencement : 2011

Completion: March 2013

Cagri Kumru, John Piggott

This research program takes as its point of departure the often-observed inconsistencies between the behaviour implied by standard economic consumer preference functions and individual and household behaviour that is actually observed. It will systematise the exploration of non-standard preferences that aim to capture aspects of human behaviour such as temptation, lack of self-control, and myopia. It will take documented behavioural traits and formalise them to allow tractability within life cycle and OLG models. Demographic shift has brought with it a global awareness of the importance of pension reform for economic and especially fiscal stability. Yet almost all policy modelling analysis relies on preference specifications which ignore the behavioural traits listed above. This research program aims to fill this gap, by estimating the parameters of commonly used nonstandard preferences and then embedding them in models of various tax and social insurance programs.

Commencement : 2012

Completion:   

Elena Capatina

Health care system reform is a contentious topic of debate highlighting the need for a better understanding of how health affects individuals and their economic decisions. Current statistics suggest that health risk is a major component of overall risk and a big determinant of welfare with potential large macroeconomic implications.  In order to predict the effects of upcoming changes to the US health care system on the type and degree of health risk faced by individuals, it is important to understand the different channels through which health affects individuals and their economic consequences. The project studies four channels through which health affects individuals: productivity, medical expenditures, available time and survival probabilities, and assesses their roles in determining labour supply, asset accumulation and welfare using a life-cycle model calibrated to the US economy for different education groups. This research has been written up into a CEPAR Working Paper and will soon be published in a peer reviewed economics journal.

Commencement: 2012

Completion: 2012

Mike Keane, Fedor Iskhakov, Nada Wasi (UNSW School of Economics Research Fellow)

This project develops models of how people make life-cycle decisions regarding human capital investment, saving, labour supply and retirement. The models incorporate how these four decisions are affected by retirement benefit systems - the aged pension in Australia, Social Security in the US. Once estimated, the models will be used to simulate how changes in retirement system rules affect decisions about saving, human capital investment, labour supply and retirement over the life-cycle.  The advance here is that we model so many decisions simultaneously (e.g., much prior work takes human capital as given). The models will be applied to both US and Australian data. 

Commencement : 2011

Completion: 

Katja Hanewald, Michael Sherris, Thomas Post (Maastricht University and Netspar)

This project assesses optimal risk management in retirement. The decision problem of a retiring couple is modelled that holds the major part of their wealth in a home and faces longevity risk, long-term care risk, and house price uncertainty. The couple can decide to buy annuities and long-term care insurance and to borrow against their home using equity release products. These decisions involve the timing problem of when to optimally borrow against the home. The framework is used to study the role of government-provided long-term care insurance and to compare the welfare effects of different home equity release products.

Commencement : 2011

Completion: July 2012  

Kaarin Anstey, Kerry Sargent-Cox, Carl Moller (RA)

Led by Professor Kaarin Anstey, this project is a five year-validation study of three screening measures developed to assess older drivers who may be at risk of crashes or unsafe driving. We will follow-up the sample of 308 older ACT drivers (aged 65 and over) who took part in a study of Driving and Healthy Ageing in 2006 that was conducted by the Ageing Research Unit, Centre for Mental Health Research, at the Australian National University. The initial sample was recruited through the electoral roll. 

Commencement : 2011

Completion: March 2012 

Xiaodong Fan 

This paper documents "sharp retirement"-retirement accompanied by a discontinuous decline in labor supply-across three data sets, which previous literature found difficult to explain. I propose and estimate a life-cycle labor supply model with habit persistence wherein sharp retirement can be explained by workers quitting "cold turkey." In much the same way that one might quit smoking, workers with accumulated "working habit" exit the labor force with a pronounced, discontinuous decline in labor supply. The working habit model is consistent with the data, where workers reduce yearly labor supply by scaling back more in hours worked per week (over 50% reduction) than in weeks worked per year (20% reduction).

The fixed costs approach, which has been the standard model used to understand sharp retirement, cannot explain these trends. After estimating the model, counterfactuals show that reducing Social Security benefits by 20% causes individuals work an additional 8.6 months. Individuals choosing sharp retirement respond mostly on the extensive margin by delaying retirement eight months, while individuals choosing smooth retirement respond mostly on the intensive margin by increasing yearly labor supply and delaying retirement only one month.

Commencement: 2012

Completion:  

Hazel Bateman, Ralph Stevens, Andy Lai (Taylor Fry Consulting)

Sound investment decisions are becoming increasingly important under the prevalent Defined Contributions (DC) approach to retirement saving. However, many retirement savers find these decisions difficult. This highlights the need for a simplified and standardised format for presenting investment information to the mass market. In this project we assess alternative presentations of investment risk using a discrete choice experiment administered to a representative sample of nearly 2,000 members of Australia's mandatory retirement savings system. Our main finding is that at a population level, presentations that describe investment risk using the probability of returns below or above thresholds, have lower variability in error propensity than presentations based on frequency of returns below or above thresholds. We also show that the variability of error propensities are lower in presentations that describe the downside of investment risk, possibly as a result of increased cognitive effort due to loss aversion. The risk presentation that minimises this variability shows investment risk as a 1 in 20 chance of a return above a threshold. This research has been written up in a CEPAR Working Paper.

Commencement: 2011

Completion:

Daniel Cho, Katja Hanewald, Michael Sherris

This study examines the pricing and solvency capital requirements for different types of reverse mortgages. Contracts with lump sum payouts are compared with contracts that provide a lifetime income. The contracts react differently to house price, interest rates and longevity risk. This research project was completed in 2012 and the results were presented to the Australian Actuarial Education and Research Symposium at Monash University in December.

Commencement: 2012

Completion: 2012

Katja Hanewald, Michael Sherris, Thomas Post

This project studies the optimal choice of home equity release products. The decision problem of a retiring couple is modeled that holds the major fraction of their wealth as home equity and faces longevity, long-term care, house price, and interest rate risk. The couple can choose to buy annuities, long-term care insurance, and to borrow against the home using different equity release products. These decisions involve the timing problem of when to optimally release home equity. The framework is used to compare the welfare effects of different home equity release products and to study the role of government-provided long-term care insurance.

Commencement : 2011

Completion: October 2012  

Loretti I. Dobrescu, Dimitri Christelis, Alberto Motta (UNSW), Larry Kotlikoff (Boston University), Benedetto Gui (University of Padova)

Under this project, a portfolio of four sub-projects was developed to address the issues related to the declining savings patterns and their determinants, at the national and individual level. First, in To Love or to Pay: On Consumption, Health and Health care, Dobrescu used a dynamic structural life-cycle model to investigate how heterogeneous health and medical spending shocks affect the savings behaviour of the elderly. Second, in Why Aren't Developed Countries Saving? Dobrescu, Kotlikoff and Motta analysed the dramatic decline in the national saving rates over time. Third, in Early Life Conditions and Financial Risk-taking in Older Age, Christelis, Dobrescu and Motta used life-history survey data from 11 European countries to analyse whether childhood conditions, such as socioeconomic status, cognitive abilities and health problems influence portfolio choice and risk attitudes later in life. Finally, in Staying home or dining out? Social interactions and old-age consumption profiles, Dobrescu, Motta and Gui developed a dynamic structural life-cycle model, wherein single retired individuals can choose to consume food at home, food outside the home and phone services to study the impact of social activities and health on individuals' consumption patterns.

Commencement: 2011

Completion:

Katja Hanewald, Fanny Kluge

The choice of family formation and size is typically included as a control variable in empirical studies on risk attitudes and household or investor financial decisions, including asset ownership and mortgage choice. The observed effects vary across studies and a theoretical foundation for this link is missing This study analyses the impact of family structure on household's risk attitudes and economic decisions. Using a theoretical model, we estimate the extent to which the observed change in risk preferences and economic behaviour is explained by changes in expected household income and expenditures. We also assess the impact on a key economic outcome for households, retirement financial security. The study is based on panel data from the German Socio-Economic Panel Study (SOEP) and from the Household, Income and Labour Dynamics in Australia (HILDA) Survey.

Commencement : 2012

Completion: January 2013 

John Piggott, Renuka Sane (Indira Gandhi Institute of Development Research)

Many countries have policies offering transfers or other entitlements, subject to a resources test. In most cases, these exempt the family home. While the impacts of means-tested programs on saving and labour supply have been extensively studied, exempting the owner-occupier home has escaped analytic attention. This project aims to assess the exemption of the owner-occupied home from the Australian age-pension on residential mobility and housing trade-downs. Results suggest that this provision discourages trade-down behaviour. This research has been written up as a CEPAR Working Paper.

Commencement: 2011

Completion: 2011