The Cost of Minimum Pension Guarantee
28 Pages Posted: 7 Nov 2005
Date Written: October 2005
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.
Keywords: minimum pension guarantee, government liability, real options, Mexico, AFOREs
JEL Classification: G23, H55
Suggested Citation: Suggested Citation