The Cost of Minimum Pension Guarantee
Instituto Tecnológico Autónomo de México (ITAM) - Division of Actuarial Science, Statistics and Mathematics; Nottingham University Business School
Instituto Tecnológico Autónomo de México (ITAM) - Division of Actuarial Science, Statistics and Mathematics
We model minimum pension guarantee using a simulation approach. Lachance and Mitchell (2002) have shown that it could be important if and when individual accounts are introduced in the United States. We model ours with real data from Mexico where individual accounts are already a reality and the minimum pension guarantee is already enshrined by law. We calculate the probability of the government needing to honor the guarantee and estimate the cost of such a promise using a real options approach. Higher investment in the stock market turns out to be the key. The higher the proportion of investment allowed by law in stocks, the lower the probability of government support.
Number of Pages in PDF File: 28
Keywords: minimum pension guarantee, government liability, real options, Mexico, AFOREs
JEL Classification: G23, H55
Date posted: November 7, 2005
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