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An Optimal Choice among Pension Systems: Evidence from Colombia

Author

Listed:
  • Octavio Martínez

    (Universidad Autónoma de Chile)

  • Ranjeeva Ranjan

    (Universidad Católica del Maule)

  • Kumar Sudheer Raj

    (Institute of Insurance and Risk Management)

Abstract

This paper examines how Colombian workers choose between two pension regimes, pay-as-you-go (PAYG) and individual account (IA), in a context marked by widespread labor informality and uneven wage distributions. Drawing on a discrete choice framework, we hypothesize that there exists a critical wage threshold above which the higher replacement rate offered by PAYG outweighs the lower accessibility constraints. In contrast, while below this threshold, the IA system's more generous lump sum payouts become more appealing for individuals who may struggle to meet minimum contribution requirements. The model is calibrated to the data and then subjected to Monte Carlo simulations to gauge consistency with observed system preferences. Findings indicate that PAYG tends to favor higher earners through regressive subsidies and stricter qualification criteria, whereas IA proves more accommodating to low-income earners. The results underscore the need for nuanced policy reforms that acknowledge these distributional imbalances and address the challenges of labor informality

Suggested Citation

  • Octavio Martínez & Ranjeeva Ranjan & Kumar Sudheer Raj, 2025. "An Optimal Choice among Pension Systems: Evidence from Colombia," Lecturas de Economía, Universidad de Antioquia, Departamento de Economía, issue 104, pages 15-49, November.
    • Handle: RePEc:lde:journl:y:2025:i:104:p:15-49
    DOI: 10.17533/udea.le.n104a359438
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    Keywords

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    JEL classification:

    • H55 - Public Economics - - National Government Expenditures and Related Policies - - - Social Security and Public Pensions
    • J26 - Labor and Demographic Economics - - Demand and Supply of Labor - - - Retirement; Retirement Policies
    • J32 - Labor and Demographic Economics - - Wages, Compensation, and Labor Costs - - - Nonwage Labor Costs and Benefits; Retirement Plans; Private Pensions

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