Intergenerational Risk Sharing under Endogenous Labor Supply

Abstract

This paper evaluates intergenerational risk-sharing in the context of a pre-funded social security scheme. The central feature of the model is that the welfare costs from labor-market distortions from risk-sharing transfers are explicitly taken into account. Equity risk manifests itself in the form of implicit taxes and subsidies on the labor earnings of participants. The labor-supply choices of participants are assumed to be elastic with respect to wage-differentials, implying that risk-sharing results in labor-market distortions. I show that labor-supply effects impede the pension fund from taking advantage of intergenerational risk-sharing. The analysis thereby provides an economic justification for solvency rules that require financial losses to be levied primarily upon currently-living generations.

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