Intergenerational Risk-Sharing via Social Security when Financial Markets Are Incomplete.

Academic research on the role of social security for intergenerational risk-sharing in models with aggregate uncertainty remains limited. In this article, the authors argue that the assumption of complete financial markets is the one crucial assumption underlying the limitations of the research. They attempt to show, via a numerical example, that when these markets are incomplete the introduction of social security into the competitive economy can lead to a welfare-improving consumption allocation in the Pareto sense. They also argue that in a realistically calibrated closed economy with production the risk-sharing benefits of an unfunded social-security system tend to be dominated by its negative effects on capital accumulation and hence mean aggregate consumption. They conclude that future research must show whether the same qualitative conclusions apply in an economy where social security also provides partial insurance against intragenerational idiosyncratic income and lifetime uncertainty.