New Releases by Laurence J. Kotlikoff

We use the 1988 PSID to study the effects of income and wealth on transfers of money and time between individuals and their parents as well as the effects of incomes of other relatives on these flows. We relate the relative incomes of parents and parents in-law to transfer amounts given and received by married couples. We also study how the relative incomes of divorced parents influence transfers. We find that money transfers tend to reduce inequality in household incomes and that time transfers are only weakly related to income differences. Richer siblings give more to parents and receive less. Among parents and parents in-law the richer set of parents is more likely to give money and less likely to receive money. The same is true of divorced parents. In contrast to the implications of simple exchange models of transfers, there is little evidence in the cross section or in the analysis using siblings that parental income or wealth raises time transfers from children or that time transfers are exchanged for money transfers. In the cross section and among siblings, the strong negative relationship between time transfers and distance from parents is not associated with a strong negative relationship between distance and money transfers. We discuss the implications of our results for alternative models of transfers.

Written in a clear, accessible style, this shortened and simplified second edition provides a systematic way to interpret macroeconomic outcomes, to understand various policy proposals, and to appreciate how individuals and firms fit into the big picture.

In an effort to bring all generations to an understanding of the American economy, Laurence Kotlikoff shares information of the budget deficit of the United States government. Generational Accounting strives to educate readers on how the economy of the United States American functions, from explaining who pays for the goods and services the nation receives to when it must be paid, and just how much money goes to it. Kotlikoff analyzes how the government’s budget deficit is the cornerstone of conventional economic policy and argues that it is a number devoid of economic content, often used to lead the American people astray. “Read it and you’ll be on the cutting edge of future debates on fiscal policy.” – Fortune

Examines evidence which points to a deterioration in the standard of living of American children relative to adults, particularly the current elderly. With generational accounting, it compares the lifetime net tax burdens (taxes paid less transfers received) of different generations.

Our previous study (Auerbach, Gokhale and Kotlikoff 1991) introduced the concept of generational accounting, a method of determining how the burden of fiscal policy falls on different generations. it found that fiscal policy in the U.S. is out of balance, in terms of projected generational burdens. This means that either current generations will bear a larger share (than we project under current law) of the burden of the government''s spending or that future generations will have to pay, on average, at least 21 percent more, on a growth-adjusted basis, than will those generations who have just been born. These conclusions were based on relatively optimistic assumptions about the path of social security sod Medicare policies, namely that the accumulation of a social security trust fund would continue and that Medicare costs would not rise as a share of QP. In this paper, we simulate the effects of realistic alternative paths for social security and Medicare. Our results suggest that such alternative policies could greatly increase the imbalance in generational policy, making not only future generations pay significantly more, but current young Americans as well. For example, continued expansion of Medicare in this decade alone could double the 21 percent imbalance figure if the bill for this Medicare growth is shifted primarily to future generations.

We consider four models of consumption that differ with respect to efficient risk-sharing and altruism. They range from complete markets with altruism to family risk-sharing. We use a matched sample of parents and independent children available from the Panel Study of Income Dynamics to discriminate between the four models. Our testing procedure is designed to deal with the set of observed independent children being endogenously selected. The combined hypothesis of complete markets and altruism can be decisively rejected, while we fail to reject altruism and hence family risk-sharing for a subset of families.

Locational choice is one of the fundamental exercises of consumer sovereignty. When regions (or localities within regions) specify different tax rates or supply different amounts of public goods, they distort individuals'' location choices. This paper models and measures for the U.S. and New England the location distortion arising from inter regional differences in taxation and supplies of public goods. In our overlapping generations model agents, at each point in their lifespan, choose where to locate taking into account their locational preferences, each region''s wage, consumption, and personal capital income taxes, and each region''s supply of public goods. The findings suggest that regional fiscal differences play an important role in the location choices of three to four percent of Americans. For these Americans the distortion of location choice is equivalent to roughly a half of a percent of their lifetime consumption. Across all Americans, however, the location distortion induced by U.S. regional fiscal differences is quite small, simply because the differences in tax rates and per capita levels of public goods expenditures across regions are not sufficiently large to induce most Americans to change location. Our analysis indicates, however, that location distortions are an increasing function of regional differences in tax rates and levels of public goods expenditure. Indeed, a doubling of the scale of public finances across all U.S. states would lead to roughly a quadrupling of the location distortion.

This paper compares the predictions of three different saving models with respect to the impact of projected U.S. demographic change on future U.S. saving rates. The three models are the life cycle model, the infinite horizon altruism model, and a reduced form econometric model. The findings for the different models indicate a great range of possible paths of future U.S. saving. However, the three models concur in predicting a peak in the U.S. national saving rate in the near future (within 15 years), followed by a significant decline in the saving rate thereafter. In fact, the findings suggest the strong possibility of negative U.S. saving rates beginning after 2030.

This paper examines whether middle age American households purchase adequate amounts of life insurance. The analysis is based on SRI International''s 1980, 1982, and 1984 surveys of the financial positions of American households. Our findings indicate that a significant minority of American wives are highly under-insured with respect to the possible deaths of their husbands. Under the assumption that actuarially fair annuities are available we find that just over 30 percent of wives are inadequately insured, by which we mean they would suffer a loss in their rate of sustainable consumption of at least 30 percent in the event of being widowed. If one assumes that annuities are not available the fraction of wives who are inadequately insured is 24 percent. These findings on inadequate life insurance are even more striking if one focuses on those households in which over half of the couple''s present expected value of resources is dependent on the husband''s survival. The fraction of wives in such households who are inadequately insured is 41 percent if one assumes fair annuities are available, and 31 percent if one assumes annuities are unavailable. The problem of inadequate insurance is even more significant among households of more modest means. Almost half of wives in such households who are in need of life insurance protection are inadequately insured, and this statement holds regardless of whether fair annuities are available. The results of this paper together with those of the related literature strongly suggest that raising the share of social security benefits that are paid to surviving spouses as well as increasing in employer-provided group life insurance could have a very considerable impact on the alleviation of poverty among widows, especially elderly widows.

What is the basic economic decision-making unit? Is it the household or the extended family? This question is fundamental to economic analysis and policy design. The answer given by the Life Cycle and Keynesian models is that the economic unit is the household. According to these models, members of particular households act selfishly and do not fully share resources with extended family members in other households. Hence, altering the distribution of resources across households within the extended family will alter the consumption and labor supply of those households who acquire or lose resources. In contrast to the Life Cycle and Keynesian models, the altruism model implies that the extended family is the basic economic decision-making unit. According to this model the extended family is linked through altruism and, as a result, acts as if it fully shares resources. In the altruism model nondistortionary changes in the distribution of resources across households within the extended family will have no effect on the consumption or labor supply of any of its members. Despite its importance, the boundaries of economic decision-making units have not, to our knowledge, been examined directly with micro data. Stated differently, the altruism model has not been tested against the Life Cycle and Keynesian alternatives with such data. This paper uses matched data on parents and their adult children, contained in the Panel Study of Income Dynamics, to perform such a test. In essence our test asks whether the distribution of consumption and labor supply across households within the extended family depends on the distribution of resources across households within the extended family. Our findings provide quite strong evidence against the altruism model. The distribution of resources across households within the extended family is a highly significant (statistically and economically) determinant of the distribution of onsumption within the extended family. This finding holds for the entire sample as well as the subsample consisting of rich parents and poor children. In addition to showing that the distribution of extended family resources matters for extended family consumption, we test the life cycle model by asking whether only own resources matter, i.e., whether the resources of extended family members have no affect on a household''s consumption. Our results indicate that extended family member resources have, at most, a modest effect on household consumption after one has controlled for the fact that extended family resources help predict a household''s own permanent income.

Notwithstanding its widespread use as a measure of fiscal policy, the government deficit is not a well-defined concept from the perspective of neoclassical macro economics. From the neoclassical perspective the deficit is an arbitrary accounting construct whose value depends on how the government chooses to label its receipts and payments. This paper demonstrates the arbitrary nature of government deficits. The argument that the deficit is not well-defined is first framed in a simple certainty model with nondistortionary policies, and then in settings with uncertain policy, distortionary policy, and liquidity constraints. As an alternative to economically arbitrary deficits, the paper indicates that the "Fiscal Balance Rule" is one norm for measuring whether current policy will place a larger or smaller burden on future generations than it does on current generations. The Fiscal Balance Rule is based on the economy''s intertemporal budget constraint and appears to underlie actual attempts to run tight fiscal policy. It says take in net present value from each new young generation an amount equal to the flow of government consumption less interest on the difference between a) the value of the economy''s capital stock and b) the present value difference between the future consumption and future labor earnings of existing older generations. While the rule is a mouth-full, one can use existing data to check whether it is being obeyed and, therefore, whether future generations are likely to be treated better or worse than current generations

In recent years the role of intergenerational transfers in the process of wealth accumulation has been the subject of substantial empirical and theoretical analysis. The key question stimulating this research is what is the main explanation for savings? Is it primarily accumulation for retirement as claimed by Albert Ando, Richard Brumberg, and Franco Modigliani in their celebrated Life Cycle Model of Savings? Is it primarily intentional accumulation for intergenerational transfers? Or is it primarily precautionary savings, much of which may be bequeathed because of imperfections in annuity markets? This paper examines a range of findings on the importance of intergenerational transfers. The strong conclusion that emerges from this evidence is that intergenerational transfers play a very important, if not a key, role in aggregate wealth accumulation. While intergenerational transfers figure very large in savings, the precise motivation for such transfers is unclear. Intergenerational altruism might appear the most likely candidate, but at least sane stylized facts, such as the equal allocation of bequests among children, are strongly at adds with the altruism model. Other explanations involving imperfect insurance arrangements or payments for child services do not appear capable of explaining the substantial amounts of transfers actually observed. Sorting cut the relative contributions of different models to intergenerational transfers and the precise role of intergenerational transfers in the process of wealth accumulation remains an intriguing and exciting enterprise

This year marks the twenty-fifth anniversary of Arnold Harberger''s celebrated model of the corporation income tax. While the model has been enormously useful as an analytical device for studying two sector economies, its usefulness for understanding the incidence and excess burden of the corporate income tax remains in question. One difficulty confronting all empirical analyses of the Harberger Model is how to treat noncorporate production in primarily corporate sectors and corporate production in primarily noncorporate sectors. The Harberger Model provides no real guide to this question since it assumes that one good is produced only by corporations and the other good is produced only by noncorporate firms. Stated differently, Harberger models the differential taxation of capital used in the production of different goods, rather than the taxation of capital used by corporations per se. This paper presents a two good model with corporate and noncorporate production of both goods. The incidence of the corporate tax in our Mutual Production Model (MPM) can differ markedly from that in the Harberger model. A hallmark of Harberger''s corporate tax incidence formula is its dependence on differences across sectors in elasticities of substitution between capital and labor. In contrast, the incidence of the corporate tax in the MPM may fall 100 percent on capital regardless of sector differences in substitution elasticities. The difference between the two models in the deadweight loss from corporate taxation is also striking. Using the Harberger - Shoven data and assuming unitary substitution and demand elasticities, the deadweight loss is over ten times larger in the CES version of the MPM than in the Harberger Model. Part of the explanation for this difference is that in the Harberger Model only the difference in the average corporate tax in the two sectors is distortionary, while the entire tax is distortionary in the MPM. A second reason for the larger excess burden in the MPM is that the MPM has a very large, indeed infinite, substitution elasticity in demand between corporate and noncorporate goods; in contrast, applications of the Harberger Model assume this elasticity is quite small.

The precautionary motive for saving is an important issue that is receiving increasing attention. Part of the motivation for this interest stems from the post war coincidence of two trends, one a decline in the U.S. rate of saving and the other an increase in insurance of various types, including unemployment insurance, annuity insurance, disability insurance, and health insurance. This paper examines precautionary saving for uncertain health care payments using a simple two period and illustrates this model''s theoretical insights through simulations of a 55 period life cycle model. While derived from a highly stylized model, the simulations give the impression that precautionary saving for uncertain health expenditures could explain a large amount of aggregate savings. Adding uncertain health expenditures to the model''s economy raises long run savings by almost one third, assuming individuals self insure. Arrangements for insuring uncertain health expenditures also have potentially quite sizable effects on savings. Introducing actuarially fair insurance to the economy with uncertain health expenditures reduces the steady state level of wealth of that economy by 12 percent. Switching from the fair insurance arrangement to a Medicaid-type program with an asset test further reduces steady state wealth by 75 percent.

This paper examines the efficiency gains from linking marginal Social Security benefits to marginal Social Security payroll taxes. In the U.S. the current combined employer-employee OASI payroll tax rate is 10.4 percent. Recent estimates suggest that the average marginal income tax rate is roughly 27 percent (Barro and Sahaskul (1983)). If marginal OASI payroll taxes provided no marginal Social Security benefits or were incorrectly perceived to provide nomarginal benefits, the effective marginal federal government taxation of labor supply would average roughly 38 percent. Since the efficiency costs of distortionary taxation rise as roughly the square of the tax rate, the Social Security payroll tax may be more than doubling the dead weight loss of labor income taxation.The findings of this paper suggest that there may be very significant efficiency gains available from tightening the connection between marginal Social Security taxes paid and marginal Social Security benefits received. Indeed, the simulated efficiency gains are very large in comparison with those obtained from analyses of the gains from structural tax reform. Restructuring Social Security to greatly enhance marginal benefit-tax linkage may be infeasible, at least in the short run. However, simply providing annual Social Security reports indicating how a worker''s projected benefits are affected by his or her tax contributions could provide substantial increases in economic efficiency. Such efficiency gains are potentially as large as increasing GNP by 1 percent this year and every year in the future

The U.S. and other western economies are experiencing dramatic changes in growth and age structure of their populations. Fluctuations in birth rates are the most important determinants of these changes in the post war period. This paper examines the dynamic effects of baby "booms" and baby"busts" on a range of economic variables using a perfect foresight life cycle simulation model. In addition to describing general transition (as opposed to simply long run) affects of fertility change, the paper considers alter-native Social Security policies for avoiding sharp increases in long run payroll tax rates. These include reductions in benefit replacement rates, advances in Social Security''s retirement age, taxation of social security benefits, and the accumulation of a significant Social Security trust fund. According to the simulated demographic transitions, the savings inthe U.S. fertility currently underway can have very major impacts on long run factor returns and produce percipitous short term changes in saving rates. While Social Security policy has important effects on the simulated demographic transitions, these effects are of secondary importance to the long run level of economic welfare. Even if payroll tax rates rise dramatically, long run welfare (measured in terms of levels of adult consumption and leisure) is, nonetheless, substantially higher in the case of a sustained dropin the fertility rate. This reflects, in part, the decline in the number of dependent children per adult; while a sustained decline in the fertility rate eventually means a much larger ratio of elderly per capita, the decline in children per capita means an overall decline in the long run ratio of dependents to prime age workers in the economy. A second explanation for the simulated long run welfare gains is capital deepening associated with lower population growth rates

Distingiishing "spot" versus "contract" views of the labor market is of critical importance to a host of economic issues ranging from wage flexibility over the business cycle to firm financial valuation. The structural features of U.S. private pension plans permit surprisingly strong inferences concerning the incentive effects of private pension plan provisions and the contractual nature of the U.S. labor market. This paper examines the accrual of vested pension benefits of a nation-wide sample of pension plans. We find strikingly larged is continuities in the profile by age of the ratio of annual accrued pension benefits to the standard wage. These discontinuities primarily occur at the ages of full vesting and early retirement. Representative plans often exhibit absolute changes in accrual ratios of 20 to 30 percentage points at these ages.The provisions of many plans imply large negative accruals after the age of early retirement. Job change typically involves a large loss in pension wealth as well. Since the average worker''s marginal product presumably changes smoothly as he or she ages, these pension data can only be reconciled with spotmarket clearing if age wage profiles within a firm exhibit exactly offsetting discontinuities at key ages. Casual inspection of firm wage setting behavior rules out this requirement of spot market clearing. In our view the magnitude,patterns, and variations in pension accrual ratios are strikingly at odds with spot market equilibrium. While market clearing in longer term contracts seems the only equilibrium theory consistent with these findings, it also strains our credulity to ascribe optimizing behavior to the pension accrual profiles chosen by a vast array of U.S. businesses. In the process of presenting these profiles we also consider the following questions concerning U.S. pensions. What are the incentive effects of private pension plans? What is the cost in pension benefits of job turnover? How important is vesting? Is there a cost in pension benefits of foregoing the early retirement option? Do pension stipulations encourage early retirement? While the considerable heterogeneity of pension plan provisions permits no simple or single answer to these questions, the data suggest that pensions can have major incentive effects on job turnover and retirement. In general pensions represent a very significant factor, and at certain ages, a dominant factor in employee compensation.

This article examines how the availability of annuities affects savings and inequality in economies in which neither private nor public pensions initially exist. The absence of widespread market or government annuity insurance is clearly descriptive of many less developed countries in the world today; it was also a characteristic of virtually all countries prior to World War II. The paper compares economies with perfect insurance with economies in which completely selfish parents and children pool longevity risk to their mutual advantage. The analysis of the latter economies takes into account the infinite sequence of risk sharing bargains of successive parents with their children. Such bargains affect current risk sharing between parents and child because they determine the welfare of current children when they become parents. Calculations based on the CBS utility function indicate that perfecting annuity insurance can significantly reduce national savings. Indeed, the insurance aspects of government pensions are potentially as important as underfunding government pensions in reducing national savings.