In this paper, we challenge the conventional idea that an increase in the progressivity of old-age pensions unanimously distorts the labor supply decision of households. So far, the literature has argued that higher pension progressivity leads to more redistribution and insurance provision on the one hand, but increases implicit taxes and therefore distorts labor supply choices on the other. In contrast, we show that a well-designed reform of the pension system has the potential to encourage labor force participation. We propose a progressive pension component linked to the employment decision of households, which implicitly subsidizes employment of the productivity poor. A simulation analysis in a quantitative stochastic overlapping generations model with productivity and longevity risk indicates that this positive employment effect can be sizable and welfare enhancing.
First version, July 16, 2021
D15: Intertemporal Household Choice; Life Cycle Models and Saving
H31: Fiscal Policies and Behavior of Economic Agents: Household
H55: Social Security and Public Pensions
J21: Labor Force and Employment, Size, and Structure
J22: Time Allocation and Labor Supply