Uncertain lifetimes and the welfare enhancing properties of annuity markets and social security

https://doi.org/10.1016/0047-2727(85)90012-XGet rights and content

Abstract

This paper explores the implications of social security programs and annuity markets through which agents, who are characterized by different distributions of length of lifetime, share death-related risks. When annuity markets operate, a non-discriminatory social security program affects only the intragenerational allocation of resources. In the absence of private information regarding individual survival probabilities, such a program will lead to a non-optimal intragenerational allocation of resources. However, the presence of adverse selection considerations gives rise to a Pareto improving role for a mandatory non-discriminatory social security program.

References (15)

There are more references available in the full text version of this article.

Cited by (74)

  • Cohort mortality risk or adverse selection in annuity markets?

    2016, Journal of Public Economics
    Citation Excerpt :

    Due to the compulsory annuitisation of wealth accumulated in tax-efficient defined contribution personal pension schemes up until 2014, the UK annuity market was the largest in the world, accounting for almost half of all annuities sold worldwide (worth £11 billion per year; HM Treasury, 2010).2 A variety of annuity types were allowed by the tax authorities so, in principle, life insurers could price annuities to separate different risk types as described in the Rothschild-Stiglitz (1976) model (henceforth RS), and extended to the annuity market by Eckstein et al. (1985). The RS model assumes that the insurer can observe the quantity of insurance purchased, but this is not a valid assumption in the annuity market.

  • Research in economics and public finance

    2016, Research in Economics
  • Social security is NOT a substitute for annuity markets

    2014, Review of Economic Dynamics
    Citation Excerpt :

    In making these statements we are, of course, focusing just on the longevity insurance role of social security while abstracting from other roles such as other forms of risk sharing, wealth redistribution, and solving the government time-inconsistency problem. Abel (1986) and Eckstein et al. (1985b) point out that there is a welfare enhancing role for social security in the presence of adverse selection in the annuity market. Social security forces households with different mortality types to pool their survival risk and hence provides a better implicit rate of return than annuity contracts traded in the market.

  • Social insurance: Connecting theory to data

    2013, Handbook of Public Economics
    Citation Excerpt :

    As another example, the impact of mandatory, partial social insurance (such as Medicare which covers some but not all medical expenses or Social Security which provides partial annuitization) on adverse selection in the residual private market for insurance is theoretically ambiguous. Under different assumptions regarding the ability to offer exclusive contracts, Abel (1986) finds that partial public annuities provided by Social Security exacerbates adverse selection pressures in the residual private market while Eckstein, Eichenbaum, and Peled (1985) document a potential welfare enhancing role for partial public annuities. Empirically, we know little about whether the existing partial public insurance programs such as Medicare and Social Security have exacerbated or ameliorated adverse selection problems in the residual private markets for the elderly for health insurance (Medigap) and annuities.

  • Health Care Spending Risk, Health Insurance, and Payment to Health Plans

    2011, Handbook of Health Economics
    Citation Excerpt :

    The welfare evaluation of cases in which no equilibrium exists is less clear, though one can certainly assert in such cases that no efficient equilibrium exists.) In this case a combination of mandatory partial insurance with community rating and voluntary supplementary insurance can make both risk types better off (Eckstein et al., 1985). Even this is only a second-best optimum because in a first-best world—and in the absence of moral hazard—every risk-averse individual would want to buy full coverage at a fair premium.

View all citing articles on Scopus

We appreciate helpful conversations and suggestions from our colleagues Jon Eaton, Lars Hansen, Robert Kaplan, Larry Kotlikoff, Chester Spatt, Robert Townsend and Allen Zelentiz. Financial support by NSF grant no. SES-8308575 is gratefully acknowledged.

View full text