public finance and policy solution gruber
Solutions and Activities to CHAPTER
13
SOCIAL SECURITY
Questions and Problems
1. The government of Westlovakia has just reformed its social security system. This reform changed two aspects of the system: (1) It abolished its actuarial reduction for early retirement, and (2) it reduced the payroll tax by half for workers who continued to work beyond the early retirement age. Would the average retirement age for Weslovakian workers increase or decrease in response to these two changes, or can you tell? Explain your answer.
The first policy change, abolishing the actuarial reduction, would tend to lower the average retirement age. The actuarial reduction is intended to make workers approximately indifferent between retiring early and waiting until standard retirement age. With the reduction, early retirees have a smaller benefit over more years. Abolishing that reduction would make early retirement more attractive: the benefits would be just as high as if workers had waited, and they would be paid over more years. The second policy change would increase the return to working later in life and thus would tend to raise the average retirement age.
The overall effect would depend on a number of factors. If people discount the future by enough (that is, have a high enough internal discount rate), they will tend to retire early: the benefit is immediate. People who have a lower discount rate will choose to work longer at the lower tax rate. A second factor that would influence the decision is the potential retiree’s health status or personal (as opposed to statistical) life expectancy. Someone who believes he has a fairly high probability of living long and well late in life will be more likely to opt for later retirement. A third factor that will tend to increase the retirement age is that the early retirement effect is truncated at the age designated for eligibility: even people who choose to retire early will only be able to retire a few
13
SOCIAL SECURITY
Questions and Problems
1. The government of Westlovakia has just reformed its social security system. This reform changed two aspects of the system: (1) It abolished its actuarial reduction for early retirement, and (2) it reduced the payroll tax by half for workers who continued to work beyond the early retirement age. Would the average retirement age for Weslovakian workers increase or decrease in response to these two changes, or can you tell? Explain your answer.
The first policy change, abolishing the actuarial reduction, would tend to lower the average retirement age. The actuarial reduction is intended to make workers approximately indifferent between retiring early and waiting until standard retirement age. With the reduction, early retirees have a smaller benefit over more years. Abolishing that reduction would make early retirement more attractive: the benefits would be just as high as if workers had waited, and they would be paid over more years. The second policy change would increase the return to working later in life and thus would tend to raise the average retirement age.
The overall effect would depend on a number of factors. If people discount the future by enough (that is, have a high enough internal discount rate), they will tend to retire early: the benefit is immediate. People who have a lower discount rate will choose to work longer at the lower tax rate. A second factor that would influence the decision is the potential retiree’s health status or personal (as opposed to statistical) life expectancy. Someone who believes he has a fairly high probability of living long and well late in life will be more likely to opt for later retirement. A third factor that will tend to increase the retirement age is that the early retirement effect is truncated at the age designated for eligibility: even people who choose to retire early will only be able to retire a few