Life Expectancy, Annuity Markets and Economic Behaviors

Abstract

In the past century, life expectancy in most countries has increased. At the same time, there is an increasing demand for the development of annuity markets. In this paper, we construct a three-period life-cycle model with credit constraints and annuity markets, and investigate the effects of increasing life expectancy and the development of annuity markets on individuals’optimal choices of the length of schooling, saving behavior, retirement length and expected lifetime total labor supply. Within this framework, we find that as life expectancy increases, individuals choose to gain more education and increase savings, but how they are going to change the retirement decision and expected lifetime labor supply depends on the maturity of annuity markets and the interest rate in the economy. If there is no mature annuity market, or if the interest rate is low, as life expectancy increases, individuals will retire earlier. However, since the survival rate also increases, expected lifetime labor supply may not decline even when labor supply at the two end stages of life does. We also find that if life expectancy remains unchanged, as annuity markets develop, individuals will retire earlier. The robustness of the results has been checked with numerical examples. Our work is part of an important literature that tries to explain the Ben-Porath puzzle”raised by Hazan（2009）, who shows that a necessary condition for the Ben-Porath mechanism（Ben-Porath, 1967）to hold is that increased life expectancy must also increase expected lifetime labor supply, which is not supported by empirical evidence. The main contributions of our paper are as follows: First, we introduce the annuity market, which is closely linked with life expectancy and retirement, to the model when revisiting the Ben-Porath mechanism. We emphasize the importance of annuity markets when analyzing the effects of increasing life expectancy on individuals’behaviors, and also show that the development of annuity markets will have an effect on individuals’optimal choice. Second, we not only analyze the effects of increasing life expectancy and the development of annuity markets on individuals’retirement decision, but also focus on the effects on individuals’expected lifetime labor supply, which is affected by both mortality rates and labor supply in each period. This makes our results comparable to the empirical findings by Hazan（2009）.