Personal Pensions with Risk Sharing: Various Approaches
This paper models a Personal Pension with Risk sharing (PPR). We derive several relationships between the parameters of a PPR. For instance, we show how the Assumed Interest Rate affects the median growth rate of retirement income. Policyholders can adopt (at least) two approaches to a PPR – the investment approach and the consumption approach. In the investment approach, policyholders specify in each period how much to save or to withdraw, and how to allocate their retirement assets across different investment options. By contrast, in the consumption approach, policyholders specify the entire consumption stream in retirement exogenously. We explore these two approaches in full detail and show how they differ from each other. In accordance with (internal) habit formation, we allow for excess smoothness and excess sensitivity in retirement income.