John Beshears James J Choi Christopher Clayton Christopher Harris David Laibson Brigitte C Madrian US is an outlier on DC account liquidity US 10 penalty for most early withdrawals ID: 615846
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Optimal illiquidity
John BeshearsJames J. ChoiChristopher ClaytonChristopher HarrisDavid LaibsonBrigitte C. MadrianSlide2
U.S. is an outlier on DC account liquidityU.S.10% penalty for most early withdrawals0% penalty for loans and certain withdrawals
Canada, AustraliaNo liquidity unless long-term unemployedGermany, Singapore, UKNo liquiditySource: Beshears et al. (2015)Slide3
U.S. retirement savings leakage
Households < 55 withdraw $0.40 (not counting loans) from retirement accounts for every $1 contributed Source: Argento, Bryant, and Sabelhaus (2014)Slide4
QuestionsIs this too much leakage?Is 10% the right penalty?
1970s Senate wanted 30% penalty1970s House wanted 10% penaltySlide5
Why do we need to make savings illiquid?Limited self-controlCreates need for illiquidity
But unpredictable, uninsurable legitimate spending needs existCreates need for flexibilitySlide6
Model setup
Households live for 2 periodsPeriod 1 = working lifePeriod 2 = retirementConsumption in period 1, , produces utility
is random variable representing how valuable pre-retirement spending is
Lies between positive numbers
and
Consumption in period
2,
,
produces utility
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Benevolent social planner
Social planner’s preference over household’s consumption given by
is discount factor representing how much less valuable future utility is
Lies between 0 and 1
can’t be observed by
planner, but planner knows population-wide distribution of
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Household preferencesHousehold’s preference over
consumption given by
Present bias term
is between 0 and 1
Represents excessive impatience
Lower value = more excessive impatience
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distribution
Normal distribution with mean 1, standard deviation 0.25, truncated at 1/3 and 5/3Slide10
Savings accountsPlanner chooses for N accounts
How much to put in each account at period 1Early withdrawal penaltySlide11
Optimal system with autarky and homogeneous
Planner can’t redistribute early-withdrawal penalties collectedPenalties are “burned”Everybody has same degree of self-controlTheorem: Optimal system has only 2 accounts: one completely liquid account and one completely illiquid account (Angeletos, Werning, and Amador, 2006)Illiquid account like Social Security or DB pensionSlide12
Optimal system with transfers and homogeneous
Planner can redistribute early-withdrawal penalties collectedEverybody has same degree of self-controlTheorem: A system with one completely liquid account and one completely illiquid account is not optimalSlide13
Optimal penalty in illiquid account in two-account system
Empirical estimate ≈ 0.7Optimal penalty ≈ 30% Slide14
Optimal system with transfers and heterogeneous
Planner knows frequency of values but not each person’s Theorem: If all agents have or
, then the optimal system
has only 2 accounts: one completely liquid account and one completely illiquid account
Intuition:
Completely liquid system is a disaster for impatient types, who consume everything in period 1 and have nothing in period 2
Partially illiquid system increases period 2 inequality relative to completely illiquid system
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Less extreme distribution
Average = 0.7Modal agent has no self-control problemSlide16
Results from numerical simulationsOptimal 2-account system1 completely liquid account
1 completely illiquid accountWelfare gain of 3.4% of income relative to system with only one completely liquid accountOptimal 3-account system1 completely liquid account1 completely illiquid account1 account with early withdrawal penalty = 9%Welfare gain from third account is only 0.018% of incomeSlide17
LeakagePlanner puts 14% of partially and fully illiquid assets in partially illiquid accountPercent of
personal retirement accounts + DB pension + Social Security in personal retirement accountMedian married household in 2008: 12% Median single household in 2008: 0%74% of dollars in partially illiquid account leaks in period 1Slide18
Robustness to other parameterizationsVary
Risk aversionShape of taste shocks Distribution of self-control parameter Optimal early withdrawal penalty: 6% to 13%Leakage rate: 65% to 90% Slide19
How I Learned to Stop Worrying and Love LeakageSlide20
TakeawaysU.S. retirement savings system
might be close to optimalWithin highly simplified modelCompletely illiquid layer like Social Security is optimal and achieves almost all possible welfare gains from policy401(k)/IRA system adds only a little to welfare10% withdrawal penalty from 401(k)/IRA system is about optimalHigh leakage from 401(k)/IRA system is optimalSome of that leakage is for legitimate purposesPenalties paid by early withdrawers benefit the rest of usSlide21
CaveatAssumes that the optimal amount is deposited in each account
If current level of Social Security + DB benefits is inadequate, then system is not optimalWould want to add an additional completely illiquid account to bring completely illiquid assets up to right level