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Working Papers

Financial independence

Yuxin Zhou, Michael Sherris, Jonathan Ziveyi and Mengyi Xu

Abstract: There is a significant potential demand in many countries around the world for a flexible product to manage individual longevity risk arising from the prevalence of defined contribu- tion pensions, uncertainty in improvements in life expectancy, potential reductions in public pensions and a lack of suitable longevity insurance products. The classical insurance product to manage individual longevity risk is the life annuity. Annuity markets remain thin, driven by many factors including lack of transparency in pricing, high product loadings, bequest motives, lack of liquidity and loss aversion. This paper proposes an individual longevity bond, not currently available, as a combined investment and insurance product to allow individuals to flexibly manage their longevity risk. The bond is a post-retirement product that combines a lifetime income along with a flexible death benefit to meet bequest and liquidity needs. The longevity bonds are issued through a special purpose vehicle which is fully collateralized with a fixed interest portfolio. We apply financial and actuarial models and techniques that provide transparent pricing for interest rate and mortality risk, the construction of optimally immunized bond portfolios and the determination of a loading and solvency margin for systematic longevity risk. We also quantify the natural hedging benefits of the individual bond cash flows arising from the flexible inclusion of both survival dependent income benefits and mortality dependent bequest benefits payable on death.

Keywords: Longevity risk, stochastic mortality, longevity bond, immunization, natural



Content pensioners

Wei Zheng, Youji Lyu, Ruo Jia and Katja Hanewald

Abstract: We study how pension participation and expected pension benefits affect the consumption of working-age adults based on a nationally representative dataset from the China Health and Retirement Longitudinal Study during the period 2011–2015. We find that working-age adults covered by the Employees’ Basic Pension, a compulsory public pension scheme for employees in the formal sector, have a consumption rate (total consumption to permanent income) that is 29.9 percentage points higher than those who do not participate in any public pension scheme. However, the Residents’ Basic Pension, a low-benefit voluntary public pension scheme for other residents, only promotes the consumption of working-age adults with a low income. Focusing on pension participants, we find that if working-age adults’ expected replacement rate (expected pension benefits at retirement to permanent income) increases by one percentage point, their consumption rate will increase by three percentage points. Working-age adults who are older, poorer, or live in a rural area increase their consumption more in response to the expected replacement rate. Nondurable consumption is more responsive to the expected replacement rate than durable consumption. Overall, our findings suggest that pension expectations are critical to the consumption decisions of working-age adults and can, therefore, affect total consumption.

Keywords: Pension, Replacement rate, Consumption, Retirement, Aging


Warwick McKibbin and Roshen Fernando

Abstract: The outbreak of coronavirus named COVID-19 has disrupted the Chinese economy and is spreading globally. The evolution of the disease and its economic impact is highly uncertain which makes it difficult for policymakers to formulate an appropriate macroeconomic policy response. In order to better understand possible economic outcomes, this paper explores seven different scenarios of how COVID-19 might evolve in the coming year using a modelling technique developed by Lee and McKibbin (2003) and extended scenarios on macroeconomic outcomes and financial markets in a global hybrid DSGE/CGE general equilibrium model.

The scenarios in this paper demonstrate that even a contained outbreak could significantly impact the global economy in the short run. These scenarios demonstrate the scale of costs that might be avoided by greater investment in public health systems in all economies but particularly in less developed economies where health care systems are less developed and population density is high.

Keywords: Coronavirus, COVID-19, pandemic, infectious diseases, risk, macroeconomics, DSGE, CGE, G-Cubed

Financial independence

George Kudrna, Chung Tran and Alan Woodland

A means-tested pension system has a distinct feature that tailors the level of pension benefits according to individual status. In the context of population aging with widening gaps in life expectancies, this feature generates an automatic adjustment mechanism that mitigates the pressing fiscal cost of an old-age public pension program (fiscal stabilization device) and redistributes pension benefits to those in need with shorter life expectancies.

Keywords: Population Ageing, Sustainability, Social Security, Means Testing, Redistribution, Automatic Stabilizer, Overlapping Generations, Dynamic General Equilibrium.

Data analysis

Phitawat Poonpolkul 

Abstract: People in different age groups have shown to differ in their degrees of risk aversion. This study investigates the macroeconomic implications of population aging when households are assumed to be increasingly risk-averse in future utility when they age. The model incorporates risk-sensitive preferences used by Hansen & Sargent (1995), which are the only recursive preferences that can separate risk aversion and intertemporal elasticity of substitution while being monotonic, into a 16-generation discrete-time OLG model with undiversifiable income risk. Compared to a time-additive counterpart, risk-sensitive preferences capture precautionary saving motives that exacerbate adverse response of aggregate macroeconomic variables under a population aging scenario through demographic re-weighting and life-cycle redistrivution channels. Varying risk aversion also allows households to internalize future uncertanties when evaluating their welfare impacts of demographic change, resulting in non-monochomatic welfare dynamics with higher welfare loss under a high-risk environment and vice versa. Risk-sensitive preferences with age-dependent risk aversion can play an important role in optimal policy settings by introducing uncertainties into the welfare impact analysis, while taking into account more realistic risk-taking behaviour of different age cohorts. 

Keywords: Demographic change, risk-sensitive preferences, overlapping-generation model, precautionary savings, risk aversion 


Qian Lu, Katja Hanewald and Xiaojun Wang

Abstract: China has experienced large improvements in mortality rates, but there remain substantial variations at the provincial level. This paper develops new models to project mortality at both the national and provincial levels in China. We propose two models in a Bayesian hierarchical framework based on principal components and a random walk process, and compile a new comprehensive database containing mortality data for 31 provinces over the period 1982–2010. The baseline two-level model with a national–province hierarchy allows for information pooling across provinces, common national factors and consistency conditions. The extended three-level model with a national–region–province hierarchy pools information in the region and also allows for common factors within the region. Both models provide good estimates and reasonable forecasts for China and its provinces. The baseline two-level model provides good fit and reasonable forecasts with equal width intervals for the provinces. The three-level model has a better fit with a lower deviance information criterion and provides forecast intervals reflecting regional uncertainty. The sensitivity analyses show that the forecasts are robust when changing the trend assumptions and regional groups.

Keywords: Mortality modelling, Bayesian framework, Hierarchical models, Coherent mortality projection, China


Dandan Yu and Denzil G. Fiebig

Abstract: The present study examines the reciprocal relationship between Internet use and cognitive function over time among middle-aged and older populations in China. We use data from the first three waves of the China Health and Retirement Longitudinal Study (CHARLS), where participants provided information on Internet use and cognitive function measures at the baseline in 2011 as well as two follow-ups in 2013 and 2015. Cross-lagged panel models were fitted to test the reciprocal association over these four years. Middle-aged and older individuals with higher cognitive function were more likely to be regular Internet users. After controlling for the effects of cognition two years prior, Internet users tended to score higher on cognitive tests than non-users. These findings survived across alternative subsamples and model specifications. Our results suggest that cognitive decline in later life may explain the lower technology adoption rate among older individuals. Meanwhile, Internet use could serve as a protective factor against cognitive decline in mid-life and older adulthood.

Keywords: Internet use; cognitive function; cross-lagged panel; China

Elderly couple enjoying life

Sisi Yang and Katja Hanewald

Abstract: The Chinese government has launched a series of health reforms to establish universal health insurance coverage, particularly for vulnerable groups, including older adults. However, the current public health insurance system is highly fragmented, consisting of different programs with different levels of premiums and benefits. We analyse whether the universal health insurance system increases the life satisfaction of middle-aged and older Chinese people and to what extent the type of health insurance affects the life satisfaction of this group. Our study is based on data from the China Health and Retirement Longitudinal Study, a nationally representative longitudinal survey of Chinese aged 45 and above, in 2011, 2013, and 2015. We find that the life satisfaction of middle-aged and older adults does not depend on having any health insurance coverage but varies with the type of health insurance coverage, controlling for potential confounding variables such as health status, occupation, hukou status, education, and other demographic variables. Individuals covered by the most generous program, the Government Medical Insurance, reported a higher life satisfaction. In comparison, individuals covered by the Urban Employee Medical Insurance, the Urban Resident Medical Insurance, and the New Rural Cooperative Scheme reported a lower life satisfaction by 0.155, 0.106, and 0.112 standard deviations, respectively. Our results suggest that establishing a more equitable health insurance system should be the next step in health reforms in China.

Keywords: Life satisfaction, Health insurance, Older adults, Health, China

Elderly couple enjoying life

Kevin Krahe, Michael Sherris, Andrés M. Villegas and Jonathan Ziveyi

Abstract: We develop and assess a value-based longevity index that closely tracks the value of longevity-linked liabilities with the potential to signicantly lower the costs and improve the efficiency of index-based longevity hedging techniques relative to standard mortality rate indices, currently referenced in financial markets. As the US is one of the largest countries in terms of market potential for such an index, we use US economic and population data to demonstrate that hedging with our proposed index generates a material reduction in basis risk relative to indices based purely on mortality rates. This is aided by the use of a multi-population continuous-time affine mortality model and a dynamic Nelson-Siegel model for interest rates. We allow both interest rate and ination risks to impact the value of longevity-linked liabilities in our longevity risk hedging. We also bridge the gap between continuous-time and discrete-time multi-population mortality models and show that the continuous-time models are as effective in hedging liabilities as the often used discrete-time models, while being more familiar to nancial market participants.

Keywords: Value-based longevity index, longevity risk, interest rate risk, inflation risk, longevity basis risk, longevity hedging