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Individual Risk and Intergenerational Risk Sharing in an Investment-Based Social Security Program
National Bureau of Economic Research [NBER]Link to more items from this source
Mar. 11, 1999

"This paper examines the risk aspects of a fully phased-in investment-based defined contribution Social Security plan. Individuals save a fraction of wages in a Personal Retirement Account (PRA) invested in a 60:40 equity-debt mix and receive a similarly invested variable annuity from age 65. The real return on these assets follows a random walk with the historic mean (5.5 percent) and standard deviation (12.5 percent) from 1946 to 1995. We study 10,000 stochastic distributions of this process for the 80 year experience from 1995 to 2074. With a nonstochastic 5.5 percent rate of return, individuals could purchase the future benefits promised in the current Social Security law (the 3.6 percent of earnings, just one-fifth of the payroll tax that Social Security actuaries project will be needed in the paygo system. A higher saving rate provides a cushion that reduces the risk of unacceptably low benefits."

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