The Design and Welfare Implications of Mandatory Pension Plans

Abstract

In a rich, calibrated life-cycle model, we evaluate the implications of mandatory pension fund savings schemes on the welfare of individual scheme participants. We show that a wide range of mandatory savings schemes substantially improve the welfare of the many individuals who are unable to build sufficient wealth to finance consumption in retirement because they procrastinate on savings or make severe investment mistakes. More strikingly, we demonstrate that some simple mandatory savings scheme even improve the welfare of rational individuals, for example a scheme with (i) a small tax advantage to pension fund returns relative to private returns, (ii) contributions to the pension fund equal to 14 percent of labor income made from age 35 to retirement, (iii) the pension fund following a stock-heavy glide-path investment policy, and (iv) the pension fund payouts decreasing moderately through retirement.

Keywords: Retirement savings, life cycle, consumption, investment, welfare, procrastination, non-participation

JEL Classification: D91, G11, D14, E21, J32