The impact of early pension withdrawals on household finances and inflation

This paper exploits Estonia’s pension reform in 2021 to examine how a largescale income shock impacts household finances and inflation. The reform made the second-pillar pension contributions voluntary and allowed early withdrawals before retirement age. One-fifth of contributors withdrew their pension savings as soon as this option became available. Using National Accounts (NA) and Distributional Wealth Accounts (DWA) data from the third quarter of 2013 to the third quarter of 2022, we apply a synthetic differences-in-differences method to assess aggregatelevel impacts. We explore the household-level dynamics by applying data from the Household Finance and Consumption Survey (HFCS). The reform led to a rise in deposits alongside a reduction in consumer debt balances. However, there was also a strong response in consumption as the consumption of leavers went up substantially, suggesting a marginal propensity to consume (MPC) of 15% of the amount withdrawn early from pensions. The positive balance sheet effects declined over a year, and consumption stayed elevated, keeping quarterly inflation 1–2 percentage points higher than it would otherwise have been. Withdrawals were concentrated among households with a high MPC, amplifying the reform’s impact on consumption.