The Luxury of Bequest

Abstract

Households with higher permanent income exhibit increased saving rates, a fact that can be explained by the assumption that households treat bequest as a luxury good. This paper provides evidence supporting this assumption, in the context of a life-cycle portfolio choice model. Households choose to save at the risk-free rate, invest on a risky asset or purchase life insurance and the luxury good property is governed by the relative risk aversion of the bequest function, which is lower than the one of the utility of consumption. Using the Method of Simulated Moments, I structurally estimate the two relevant risk aversion parameters, matching moments generated by the model to their empirical counterparts. I find that the parameters are unequal in the predicted direction and in a statistically significant way. When compared to a standard, homothetic model, the luxury-of-bequest specification generates improved average profiles and more a realistic wealth distribution.