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Optimal Funding and Asset Allocation Rules for Defined-Benefit Pension Plans

In: Financial Aspects of the United States Pension System

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  • J. Michael Harrison
  • William F. Sharpe

Abstract

This paper considers a world in which pension funds may default, the cost of the associated risk of default is not borne fully by the sponsoring corporation, and there are differential tax effects. The focus is on ways in which the wealth of the shareholders of a corporation sponsoring a pension plan might be increased if the Internal Revenue Service (IRS) and the Pension Benefit Guaranty Corporation (PBGC) follow simple and naive policies. Under the conditions examined, the optimal policy for pension plan funding and asset allocation is shown to be extremal in a certain sense. This suggests that the IRS and the PBGC may wish to use more complex regulatory procedures than those considered in the paper.
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Suggested Citation

  • J. Michael Harrison & William F. Sharpe, 1983. "Optimal Funding and Asset Allocation Rules for Defined-Benefit Pension Plans," NBER Chapters,in: Financial Aspects of the United States Pension System, pages 91-106 National Bureau of Economic Research, Inc.
  • Handle: RePEc:nbr:nberch:6029
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    References listed on IDEAS

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    1. Sharpe, William F., 1976. "Corporate pension funding policy," Journal of Financial Economics, Elsevier, vol. 3(3), pages 183-193, June.
    2. Litzenberger, Robert H & Van Horne, James C, 1978. "Elimination of the Double Taxation of Dividends and Corporate Financial Policy," Journal of Finance, American Finance Association, vol. 33(3), pages 737-750, June.
    3. Irwin Tepper, 1981. "Taxation and Corporate Pension Policy," NBER Working Papers 0661, National Bureau of Economic Research, Inc.
    4. Tepper, Irwin, 1981. "Taxation and Corporate Pension Policy," Journal of Finance, American Finance Association, vol. 36(1), pages 1-13, March.
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    Citations

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    Cited by:

    1. Zvi Bodie, 1989. "Pension Funds and Financial Innovation," NBER Working Papers 3101, National Bureau of Economic Research, Inc.
    2. Love, David & Smith, Paul A. & Wilcox, David, 2007. "Why Do Firms Offer Risky Defined–Benefit Pension Plans?," National Tax Journal, National Tax Association;National Tax Journal, vol. 60(3), pages 507-519, September.
    3. Zvi Bodie, 1988. "Pension Fund Investment Policy," NBER Working Papers 2752, National Bureau of Economic Research, Inc.
    4. Zvi Bodie & Jay O. Light & Randall Morck, 1987. "Funding and Asset Allocation in Corporate Pension Plans: An Empirical Investigation," NBER Chapters,in: Issues in Pension Economics, pages 15-48 National Bureau of Economic Research, Inc.
    5. David A. Love & Paul A. Smith & David W. Wilcox, 2009. "Should risky firms offer risk-free DB pensions?," Finance and Economics Discussion Series 2009-20, Board of Governors of the Federal Reserve System (U.S.).
    6. Alan Marcus, 1987. "Corporate Pension Policy and the Value of PBGC Insurance," NBER Chapters,in: Issues in Pension Economics, pages 49-80 National Bureau of Economic Research, Inc.
    7. Kalra, Raman & Jain, Gautam, 1997. "A continuous-time model to determine the intervention policy for PBGC," Journal of Banking & Finance, Elsevier, vol. 21(8), pages 1159-1177, August.
    8. Chongmin Kim, 2004. "Corporate financial policy with pension accounts: an extension of the Modigliani-Miller theorem," International Economic Journal, Taylor & Francis Journals, vol. 18(2), pages 215-236.
    9. repec:eee:corfin:v:48:y:2018:i:c:p:331-351 is not listed on IDEAS
    10. Pesando, James E, 1987. "Discontinuities in Pension Benefit Formulas and the Spot Model of the Labor Market: Implications for Financial Economists," Economic Inquiry, Western Economic Association International, vol. 25(2), pages 215-238, April.
    11. Joshua Rauh, 2007. "Risk Shifting versus Risk Management: Investment Policy in Corporate Pension Plans," NBER Working Papers 13240, National Bureau of Economic Research, Inc.

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