Interest-rate risk and household portfolios
72 Pages Posted: 2 Jun 2022 Last revised: 17 Oct 2023
Date Written: October 14, 2023
How are households exposed to interest-rate risk? When rates fall, households face lower future expected returns but those holding long-term assets—disproportionately the wealthy and middle-aged—experience capital gains. We study the hedging demand for long-term assets in a portfolio choice model. The optimal interest-rate sensitivity of wealth is hump-shaped over the life cycle. Within cohorts, it increases with wealth and earnings. These predictions fit observed patterns in the United States, suggesting a relatively efficient distribution of interest-rate risk. By protecting workers from rate fluctuations, Social Security limits the welfare consequences of rising wealth inequality when rates fall.
Keywords: Interest rates, Portfolio choices, Inequality, Social Security
JEL Classification: D31, E21, G51, H55
Suggested Citation: Suggested Citation