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Designing Optimal Disability Insurance

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  • Mikhail Golosov
  • Aleh Tsyvinski

Abstract

In this paper we describe how to optimally design a disability insurance system. The key friction in the model is imperfectly observable disability. We solve a dynamic mechanism design problem and provide a theoretical and numerical characterization of the social optimum. We then propose a simple tax system that implements an optimal allocation as a competitive equilibrium. The tax system that we propose includes only taxes and transfers that are similar to those already present in the U.S. tax code: a savings tax and an asset-tested transfer program. Using a numerical simulation, we compare our optimal disability system to the current disability system. Our results suggest a significant welfare gain from switching to an optimal system.

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Paper provided by David K. Levine in its series Levine's Working Paper Archive with number 506439000000000217.

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Date of creation: 27 Jan 2003
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Handle: RePEc:cla:levarc:506439000000000217

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  1. Mikhail Golosov & Narayana Kocherlakota & Aleh Tsyvinski, 2001. "Optimal indirect and capital taxation," Staff Report, Federal Reserve Bank of Minneapolis 293, Federal Reserve Bank of Minneapolis.
  2. Daron Acemoglu & Robert Shimer, 1998. "Efficient Unemployment Insurance," NBER Working Papers 6686, National Bureau of Economic Research, Inc.
  3. Abraham, Arpad & Pavoni, Nicola, 2004. "Efficient Allocations with Moral Hazard and Hidden Borrowing and Lending," Working Papers, Duke University, Department of Economics 04-05, Duke University, Department of Economics.
  4. Hugo Benitez-Silva & Moshe Buchinsky & Hiu Man Chan & Sofia Cheidvasser & John Rust, 2000. "How Large is the Bias in Self-Reported Disability?," Working Papers 2000-01, Brown University, Department of Economics.
  5. Wang, Cheng & Williamson, Stephen, 1996. "Unemployment insurance with moral hazard in a dynamic economy," Carnegie-Rochester Conference Series on Public Policy, Elsevier, Elsevier, vol. 44(1), pages 1-41, June.
  6. Bound, John & Cullen, Julie Berry & Nichols, Austin & Schmidt, Lucie, 2004. "The welfare implications of increasing disability insurance benefit generosity," Journal of Public Economics, Elsevier, vol. 88(12), pages 2487-2514, December.
  7. Sheshinski, E. & Diamond, P., 1992. "Economic Aspects of Optimal Disability Benefits," Working papers 92-5, Massachusetts Institute of Technology (MIT), Department of Economics.
  8. Armstrong, Mark & Rochet, Jean-Charles, 1999. "Multi-dimensional screening:: A user's guide," European Economic Review, Elsevier, vol. 43(4-6), pages 959-979, April.
  9. Albanesi, Stefania & Sleet, Christopher, 2003. "Dynamic Optimal Taxation with Private Information," CEPR Discussion Papers 4006, C.E.P.R. Discussion Papers.
  10. Hopenhayn, H. & Nicolini, P.J., 1996. "Optimal Unemployment Insurance," RCER Working Papers 421, University of Rochester - Center for Economic Research (RCER).
  11. David H. Autor & Mark G. Duggan, 2001. "The Rise in Disability Recipiency and the Decline in Unemployment," JCPR Working Papers 226, Northwestern University/University of Chicago Joint Center for Poverty Research.
  12. Bound, John & Burkhauser, Richard V., 1999. "Economic analysis of transfer programs targeted on people with disabilities," Handbook of Labor Economics, Elsevier, in: O. Ashenfelter & D. Card (ed.), Handbook of Labor Economics, edition 1, volume 3, chapter 51, pages 3417-3528 Elsevier.
  13. Mikhail Golosov, 2007. "Optimal Taxation With Endogenous Insurance Markets," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 122(2), pages 487-534, 05.
  14. Bound, John, 1989. "The Health and Earnings of Rejected Disability Insurance Applicants," American Economic Review, American Economic Association, vol. 79(3), pages 482-503, June.
  15. Bound, John & Waidmann, Timothy, 1992. "Disability Transfers, Self-Reported Health, and the Labor Force Attachment of Older Men: Evidence from the Historical Record," The Quarterly Journal of Economics, MIT Press, MIT Press, vol. 107(4), pages 1393-419, November.
  16. Diamond, P. A. & Mirrlees, J. A., 1978. "A model of social insurance with variable retirement," Journal of Public Economics, Elsevier, vol. 10(3), pages 295-336, December.
  17. Diamond, Peter A & Mirrlees, James A, 1986. " Payroll-Tax Financed Social Insurance with Variable Retirement," Scandinavian Journal of Economics, Wiley Blackwell, vol. 88(1), pages 25-50.
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