Two essays on life cycle models

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  • March 21, 2019
Creator
  • Kahvecioglu, Daver Cuneyt
    • Affiliation: College of Arts and Sciences, Department of Economics
Abstract
  • This dissertation consists of two essays. In "A Life-Cycle Model: Retirement, Savings, and Portfolio Allocation", I analyze the interrelationships among retirement, saving, and asset allocation. I show that optimal portfolio allocation can be very sensitive to plans about retirement timing and to the presence and characteristics of Social Security. I also show how portfolio decisions have impact on when to retire. In order to take into account these important effects, Social Security reform proposals should be evaluated with models that incorporate portfolio choice. In the second essay, "Asset Allocation, Bequests, and Wealth Dynamics of the Elderly", I build and estimate a life cycle model of asset allocation and saving with a fixed cost of stock market entry, medical expenditure risk, and a general bequest function that captures risk preferences over bequests. The estimates imply that there is no operative bequest motive, and that medical expenditure risk is a very strong motivation for saving at older ages. Even though the model explains reasonably well both the observed average age profiles and the heterogeneity in saving and portfolio allocation, the cross-equation restrictions that are required for internal consistency are strongly rejected. This is mainly due to the fact that, in constant relative risk aversion utility, a single parameter - coefficient of relative risk aversion - governs both wealth and portfolio paths. While a very high level of risk aversion is required to explain portfolio choices, a very low level of risk aversion is required to explain wealth dynamics. Despite its internal inconsistency, the model is one of the richest versions of the standard model and I use the estimates to do some policy simulations with caution. I used the estimates to simulate the impact of reducing the Social Security benefit of a 70-year old female retiree by a specific amount, and giving her a lump sum equal to the expected present discounted value of the benefit cut, which is to be invested in her individual account. I find that this reform would be undesirable. Main reason behind this is that, most retirees are either optimally annuitized or under-annuitized.
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  • In Copyright
Advisor
  • Blau, David
Degree granting institution
  • University of North Carolina at Chapel Hill
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  • Open access
Date uploaded
  • October 19, 2010

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