Retirement Income Research: What Can WeLearn from Economics?

Abstract

Research on retirement income planning has, for many years, followed two separate tracks. Financial planning practitioners have developed guidelines for withdrawals from savings and asset allocation by testing and fine-tuning various rules of thumb. Economists have applied a different approach, based on life-cycle finance, aimed at maximizing the utility of lifetime consumption, using dynamic programming techniques to optimize retirement withdrawals and asset allocations. This article seeks to use a non-mathematical explanation to help financial planners and others who are not familiar with the economics approach to develop a conceptual understanding of how life-cycle finance and dynamic programming can be applied to retirement income planning. It also compares the performance of optimized recommendations produced by dynamic programming with various rule-of-thumb strategies that have been popular in the planning literature. It attempts to demonstrate the power that the economics approach can bring to improving retirement income planning and argues that more communication between economists and practitioners can help open up new approaches to research and improved practical applications. <b>TOPICS:</b>Retirement, wealth management