A life cycle analysis of social security

SummaryWe develop an applied general equilibrium model to examine the optimal social security replacement rate and the welfare benefits associated with it. Our setup consists of overlapping generations of 65-period lived individuals facing mortality risk and individual income risk. Private credit markets, including markets for private annuities, are closed by assumption. Unlike previous analyses, we find that an unfunded social security system may well enhance economic welfare. In our benchmark economy, the optimal social security replacement rate is 30%, and an empirically more plausible replacement rate of 60% raises welfare compared with an economy with no social security system.

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