How Individuals React to Defined Benefit Pension Risk

38 Pages Posted: 1 Nov 2013

See all articles by Nicolas Salamanca

Nicolas Salamanca

Melbourne Institute: Applied Economic & Social Research, the University of Melbourne; IZA; University of Melbourne - ARC Centre of Excellence for Children and Families over the Life Course

Andries de Grip

Maastricht School of Business and Economics; IZA Institute of Labor Economics

Olaf Sleijpen

Department of Economics, Maastricht University, De Nederlandsche Bank

Date Written: August 30, 2013

Abstract

We develop a measure of (hybrid) defined benefit (DB) pension risk and show how this pension risk affects individual portfolio decisions. We find that people in riskier DB plans are, on average, not only less likely to hold equity but also hold a smaller share of their wealth in equity. This relation is stronger for people who are better informed about their pension plan risk, and for retirees. We also check whether pension risk is related to retirement decisions but find no evidence to support this hypothesis. Our main results are robust to a number of model specifications and alternative explanations. Our findings suggest that properly funded DB pension plans can increase participants’ welfare by allowing them to seek higher returns in their individual portfolios while at the same time relieving less sophisticated participants from the decisions required by a defined contribution plan.

Keywords: Individual portfolio, background risk, pension funding, retirement planning

JEL Classification: D14, G11

Suggested Citation

Salamanca, Nicolas and de Grip, Andries and Sleijpen, Olaf, How Individuals React to Defined Benefit Pension Risk (August 30, 2013). Netspar Discussion Paper No. 08/2013-041, Available at SSRN: https://ssrn.com/abstract=2347976 or http://dx.doi.org/10.2139/ssrn.2347976

Nicolas Salamanca

Melbourne Institute: Applied Economic & Social Research, the University of Melbourne ( email )

Level 5, FBE Building, 111 Barry Street
Parkville, Victoria 3010
Australia

IZA ( email )

P.O. Box 7240
Bonn, D-53072
Germany

University of Melbourne - ARC Centre of Excellence for Children and Families over the Life Course ( email )

Andries De Grip (Contact Author)

Maastricht School of Business and Economics ( email )

P. O. Box 616
Maastricht, NL 6200 MD
Netherlands

IZA Institute of Labor Economics

P.O. Box 7240
Bonn, D-53072
Germany

Olaf Sleijpen

Department of Economics, Maastricht University, De Nederlandsche Bank ( email )

PO Box 98
1000 AB Amsterdam
Amsterdam, 1000 AB
Netherlands

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