This paper assesses optimal life cycle consumption and portfolio allocations when households have access to Guaranteed Minimum Withdrawal Benefit (GMWB) variable annuities over their adult lifetimes. Our contribution is to evaluate demand for these products which provide access to equity investments with money-back guarantees, longevity risk hedging, and partially-refundable premiums, in a realistic world with uncertain labor and capital market income as well as mortality risk. Others have predicted that consumers will only purchase such annuities late in life, but we show that they will optimally purchase GMWBs prior to retirement, consistent with their recent rapid uptick in sales. Additionally, many individuals optimally adjust their portfolios and consumption streams along the way by taking cash withdrawals from the products. These products can substantially enhance consumption, by up to 10% for those who experience highly unfavorable experiences in the stock market. We evaluate lifecycle consumption and portfolio allocation patterns resulting from access to Guaranteed Minimum Withdrawal Benefit (GMWB) variable annuities, one of the most rapidlygrowing financial innovations over the last two decades. A key feature of these products is that they offer access to equity investments with downside protection, hedging of longevity risk, and partially-refundable premiums. Welfare rises since policyholders exercise the product's flexibility by taking withdrawals and dynamically adjusting their portfolios and consumption streams. Consistent with observed behavior, differences across individuals' cash out and annuitization patterns result from variations in realized equity market returns and labor income trajectories.

No abstract

This paper explores how a capital market environment of persistent low returns influences saving, investing, and retirement decisions and behaviors, as compared to what in the past had been thought of as more "normal" financial conditions. Our calibrated lifecycle dynamic model with realistic tax, minimum distribution, as well as uncertain income, stock returns, and mortality and Social Security benefit rules produces results that agree with observed work, and claiming age behavior of U.S. households.During the work life, the individual we consider has the opportunity to use current cash on hand for consumption and investments. Some portion of the worker's pre-tax salary (up to a limit of $18K) can be invested into a tax-qualified 401(k)-retirement plan of the EET type. That is, contributions into the account and investment earnings on account assets are tax-exempt, while withdrawals are taxed. In addition, a worker can invest outside his retirement plan in risky stocks and riskless bonds. The individual pays taxes (labor income tax, Medicare, City and State Tax, Social Security tax). Our model allows for flexible work effort and retirement ages. The worker can retire and claim Social Security benefits between age 62 and 70.The parameter of our model are matched, so that the model generates a large peak at the earliest claiming age at 62, as we can see in the data. Also in line with the empirical evidence, our baseline results show a smaller second peak at the (system-defined) Full Retirement Age of 66. Key Findings:The results of alternative interest rate regimes are also quite informative.• First, One sensible result is that people are predicted to save less during periods of low returns.• Second, people tend to finance consumption relatively early in retirement by drawing down their 401(k) assets sooner.• Third, low rates also change in which locations people save. During low-return periods, workers save less in tax-qualified accounts and more outside tax-qualified plans, until retirement. The reason is that the tax advantages of saving in 401(k) plans are relatively less attractive, inasmuch as the gain from saving in pretax plans is lower, and because the return on assets in the retirement account are lower in a low return environment.• And fourth, we find that low interest rates drive workers to claim Social Security benefits later, so they can take advantage of the relatively high payoff to deferring retirement under current rules. In this way we confirm that Social Security claiming rules have a powerful effect on how households are able to adjust to financial market fluctuations.Electronic copy available at: https://ssrn.com/abstract=3076397 AbstractThis Chapter explores how an environment of persistent low returns influences saving, investing, and retirement behaviors, as compared to what in the past had been thought of as more "normal" financial conditions. Our calibrated lifecycle dynamic model with realistic tax, minimum distribution, and Social Security benefit rules produces results that agree wi...

In many countries, governmental support for funded old-age programmes comes at the cost of at least partial mandatory annuitisation of accumulated assets in retirement. We survey regulatory frameworks for the payout phase of funded pension systems in seven European countries and the US and study the influence of mandatory annuitisation on the welfare of both rational and behaviourally influenced individuals using a dynamic life-cycle model. We show that mandatory immediate full annuitisation of retirement assets will reduce rational individuals ' certainty equivalent pension wealth by up to 54 %. Softening the strict immediate annuitisation requirements along the line of regulatory realities in some of the surveyed countries reduces utility losses considerably. Behaviourally restricted individuals can benefit from full annuitisation at retirement, but generally they will also prefer more flexible regulation.JEL CODES : G11, G28, H24, H55

A recent US Treasury regulation allowed deferred longevity income annuities to be included in pension plan menus as a default payout solution, yet little research has investigated whether more people should convert some of the $15 trillion they hold in employer-based defined contribution plans into lifelong income streams. We investigate this innovation using a calibrated lifecycle consumption and portfolio choice model embodying realistic institutional considerations. Our welfare analysis shows that defaulting a small portion of retirees' 401(k) assets (over a threshold) is an attractive way to enhance retirement security, enhancing welfare by up to 20% of retiree plan accruals.