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Portfolio decisions on life annuities and financial assets with longevity and income uncertainty

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There are two stylised facts, namely weak demand for life-annuities and flat age-wealth profile that contradict the life-cycle hypothesis. In this paper we design a theoretical framework, which combines plausible arguments, which have been put forward in the literature to reconcile theory with empirical evidence. Besides the existence of an annuity market and of a public pension system we assume risk-averse individuals who are uncertain about lifetime and disposable income and who have preferences for leaving bequests. It is shown that this framework can contribute to explain the observed portfolio decision in favour of financial assets relatively to annuities.

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Paper provided by Department of Economics, Johannes Kepler University Linz, Austria in its series Economics working papers with number 2004-14.

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Date of creation: Dec 2004
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Handle: RePEc:jku:econwp:2004_14

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Keywords: savings; life annuities; bequests; uncertain lifetime; uncertain income; social security;

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  1. Johann K. Brunner & Susanne Pech, 2001. "Adverse Selection in the Annuity Market when Payoffs Vary over the Time of Retirement," CESifo Working Paper Series 412, CESifo Group Munich.
  2. Susanne Pech, 2002. "Tax incentives for private life annuities and the social security reform: Effects on consumption and on adverse selection," Economics working papers 2002-09, Department of Economics, Johannes Kepler University Linz, Austria.
  3. R Disney & C Emmerson & M Wakefield, 2001. "Pension reform and saving in Britain," Oxford Review of Economic Policy, Oxford University Press, vol. 17(1), pages 70-94, Spring.
  4. Rodepeter, Ralf & Winter, Joachim, 1998. "Savings decisions under life-time and earnings uncertainty:," Sonderforschungsbereich 504 Publications 98-58, Sonderforschungsbereich 504, Universität Mannheim & Sonderforschungsbereich 504, University of Mannheim.
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  7. Johann K. Brunner & Susanne Pech, 2002. "Adverse selection in the annuity market with sequential and simultaneous insurance demand," Economics working papers 2002-04, Department of Economics, Johannes Kepler University Linz, Austria.
  8. Orazio P. Attanasio & Hilary Williamson Hoynes, 2000. "Differential Mortality and Wealth Accumulation," Journal of Human Resources, University of Wisconsin Press, vol. 35(1), pages 1-29.
  9. Olivia S. Mitchell, 1999. "New Evidence on the Money's Worth of Individual Annuities," American Economic Review, American Economic Association, vol. 89(5), pages 1299-1318, December.
  10. Davies, James B, 1981. "Uncertain Lifetime, Consumption, and Dissaving in Retirement," Journal of Political Economy, University of Chicago Press, vol. 89(3), pages 561-77, June.
  11. Eckstein, Zvi & Eichenbaum, Martin & Peled, Dan, 1985. "Uncertain lifetimes and the welfare enhancing properties of annuity markets and social security," Journal of Public Economics, Elsevier, vol. 26(3), pages 303-326, April.
  12. Amy Finkelstein & James Poterba, 2002. "Selection Effects in the United Kingdom Individual Annuities Market," Economic Journal, Royal Economic Society, vol. 112(476), pages 28-50, January.
  13. Lillard, L.A. & Waite, L.J., 1996. "Marital Disruption and Mortality," Papers 96-01, RAND - Reprint Series.
  14. Walliser, Jan, 2000. " Adverse Selection in the Annuities Market and the Impact of Privatizing Social Security," Scandinavian Journal of Economics, Wiley Blackwell, vol. 102(3), pages 373-93, June.
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