Academic journal article Journal of Risk and Insurance

Pension Wealth Uncertainty

Academic journal article Journal of Risk and Insurance

Pension Wealth Uncertainty

Article excerpt


Using a representative sample of Italian investors, we measure the uncertainty of social security benefits by eliciting for each individual the subjective distribution of the replacement rate as a summary indicator of pension uncertainty. We find that pension uncertainty varies across individuals in a way that is consistent with what one would expect a priori, given different information sets and pension schemes. In particular, individuals who are a long way from retirement, and thus face more career uncertainty, report more subjective pension uncertainty. Since expectations reveal information about people's understanding of pension reforms, our findings suggest that they should also be an important determinant of how people respond to reforms.


As a reflection of the still incomplete process of pension reform and of the nature of the reforms adopted, there is a widespread belief that for the citizens of most industrialized countries, pension entitlements have become much more uncertain than in the past. It is fair to say that even an informed worker can find it difficult to estimate her pension benefits at retirement.

The long-term nature of pension arrangements makes it all the more difficult to predict what the eventual pension will be, particularly for younger people. Their longer time horizons mean that young people are more subject to fundamental sources of pension uncertainty, which occur particularly in countries such as Italy, where future benefits will be closely linked to contributions.

The first source of uncertainty is based on the reforms already undertaken, which have resulted in lower public pension coverage, and also, and by design, in greater benefit uncertainty: future pensions will reflect idiosyncratic income uncertainty during a working life, future fluctuations in aggregate GDP growth, and population-wide survival rates. The second source of uncertainty lies in the reforms that have still to be introduced, because the reform process is incomplete. Being unable to predict pension benefits can be of first-order importance to consumer welfare, particularly if perceptions of the true uncertainty are biased, and not sufficient action is taken to buffer against future risk of exhausting lifetime resources. Thus, understanding how much uncertainty people perceive, whether what is perceived is consistent with reality, and how individuals respond to this uncertainty are issues of primary relevance.

In this article, we investigate these issues, focusing on the first two, in the context of the Italian economy. We perform our analysis in three steps. In a first step, we simulate pension benefits according to the Italian pension rules and show that under realistic assumptions pension uncertainty can be summarized by uncertainty about the replacement rate. The simulations show that replacement rate uncertainty is higher for young workers and for workers with more uncertain incomes such as the self-employed. In the new regime in which pensions are tightly linked to contributions, demographic and aggregate income uncertainty are also associated with higher pension uncertainty.

In the second step, we rely on the 2006 Unicredit Customer Survey (UCS), which covers a representative sample of its clients. Since Unicredit is one of the two leading Italian banks and has over 5 million customers, the sample is also representative of the Italian population with a bank account. (1) The survey asks for detailed information on income, assets, and demographic variables and, quite uniquely, elicits the subjective probability distribution of the replacement rate (the ratio of the first pension to the final year's income) for each individual in the sample. We rely on subjective distributions to quantify the amount of uncertainty about future pensions that working-age individuals perceive and construct, for each household, the expected replacement rate, and the standard deviation of the replacement rate. …

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