Health Cost Risk: A Potential Solution to the Annuity Puzzle

28 Pages Posted: 11 Aug 2017

See all articles by Kim Peijnenburg

Kim Peijnenburg

Netspar; Centre for Economic Policy Research (CEPR); EDHEC Business School - Department of Economics & Finance

Theo Nijman

Tilburg University - Tilburg University School of Economics and Management

Bas J. M. Werker

Tilburg University - Center for Economic Research (CentER)

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Date Written: August 2017

Abstract

We find that health cost risk lowers optimal annuity demand at retirement. If medical expenses can be sizeable early in retirement, full annuitisation at retirement is no longer optimal because agents do not have enough time to build a liquid wealth buffer. Furthermore, large deviations from optimal annuitisation levels lead to small utility differences. Our results suggest that health cost risk can explain a large proportion of empirically observed annuity choices. Finally, allowing additional annuitisation after retirement results in welfare gains of at most 2.5% when facing health cost risk, and negligible gains without this risk.

Suggested Citation

Peijnenburg, Kim and Nijman, Theo E. and Werker, Bas J.M., Health Cost Risk: A Potential Solution to the Annuity Puzzle (August 2017). The Economic Journal, Vol. 127, Issue 603, pp. 1598-1625, 2017, Available at SSRN: https://ssrn.com/abstract=3016865 or http://dx.doi.org/10.1111/ecoj.12354

Kim Peijnenburg (Contact Author)

Netspar ( email )

P.O. Box 90153
Tilburg, 5000 LE
Netherlands

Centre for Economic Policy Research (CEPR) ( email )

London
United Kingdom

EDHEC Business School - Department of Economics & Finance ( email )

France

Theo E. Nijman

Tilburg University - Tilburg University School of Economics and Management ( email )

P.O. Box 90153
Tilburg, 5000 LE
Netherlands
+31 13 466 2342 (Phone)
+31 13 466 3280 (Fax)

Bas J.M. Werker

Tilburg University - Center for Economic Research (CentER) ( email )

Econometrics and Finance Group
5000 LE Tilburg
Netherlands

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