Geoffrey Kingston

Annuitization and asset allocation with HARA utility

A new explanation for the well-known reluctance of retirees to buy life annuities is due to Milevsky and Young (2002, 2003). Specifically, the decision to buy longevity insurance is largely irreversible, so that the real option to delay annuitization generally has value. Milevsky and Young analyticaly identify and numerically estimate the RODA in a setting of constant relative risk aversion (CRRA). This paper extends the analysis of Milevsky and Young to the case of hyperbolic absolute risk aversion (HARA),the simplest representation of a consumption habit.The formula for the optimal timing of annuitization ias surprisingly simple, but yields only a myopic solution, that is, the precise date of annuitization cannot be ascertained in advance. The effect of increasing the subsistence consumption rate on the timing of annuity purchase is similar to the effect of increasing the curvature function of the utility function. As in the CRRA case studied by Milevsky and Young, delayed annuitization is associated with optimistic forward-looking estimates of the Sharpe ratio.

Currency substitution under finance constraints

The perfect-foresight continuous-time couterpart of Lucas and stokeys cash-in-advance model is generalized to the case of two currencies. The money demand function for eac currency has as arguments the endowments of goods associated with each denomination. Various monetary shocks are investigated including permanent and temporary changes in levels and growth rates. It is shown that substitution can be an important factor in explaining: the possible negative transmission of inflation, the amount of volatility of exchange rates, and the degree tp which exchange rate movements approximate a random walk.

Theoretical foundations of constant-proportion portfolio insurance

Abstract Under HARA preferences and a standard opportunity set, constant-proportion portfolio insurance is optimal if and only if the investor has declining absolute and relative risk aversion. The optimal floor is the capitalized value of the investors subsistence consumption rate if and only if the investors family size is constant.

The semi-log portfolio balance schedule is tenuous

A well-known procedure in the context of the semi-log portfolio balance schedule is to impose an arbitrary terminal condition that rules out the occurrence of runaway inflations in the absence of runaway growth in the money supply. Notwithstanding the fact that a formal justification for this procedure is sometimes available in the context of equations that emerge from optimum problems, this paper finds that no such justification is available in the context of several leading optimizing models of money that either conceivably or actually deliver the Cagan schedule. A byproduct of the analysis is a demonstration that the semi-log, double-log, and Box-Cox schedules are integrable (can be generated by at least one optimizing framework).

Financial Engineering for Australian Annuitants

The past few decades have witnessed a global move towards private provision for retirement through individual defined contribution pensions at the expense of publicly provided and employer-sponsored defined benefit pensions. As a consequence, workers and retirees are becoming increasingly exposed to uncertainties in financial, labour and economic markets. The contributors to this book analyse the implications for retirement income policy, workers and retirees in view of the current climate of heightened exposure to scary markets. The implications of a broad range of scary market scenarios are presented, and novel solutions prescribed. Retirement incomes across a number of countries including the US, the UK, Japan and Australia are explored.

Efficient timing of income taxes

Abstract The marginal collection cost of an income tax is predicted to be a martingale, and the marginal income tax rate is predicted to be a supermartingale. Collection costs can be estimated from tax rates. Almost all tests based on a U.S. series of actual marginal income tax rates, 1913–1975, accept the hypothesis of random-walk behavior in collection costs, and reject the parallel hypothesis on tax rates.

Should Marginal Tax Rates be Equalized Through Time

I derive necessary and sufficient conditions for the intertemporal equalization of optimal tax rates. The conditions in the case of wage taxes include constant-elasticity labor supply and constant relative risk aversion. Wage taxes should be low in times of relatively elastic labor supply, or low risk aversion. The conditions in the case of capital taxes include perfect-foresight expectations and constant relative risk aversion. If foresight is imperfect, intertemporal equality will be impeded by a covariance term; if relative risk aversion is time-varying, next periods capital tax should have the same sign as this periods change in relative risk aversion.

Joint Implications of Consumption and Tax Smoothing

In this paper, the joint hypotheses of consumption and tax smoothing are shown to imply that the present value of expected proportionate declines in government non-interest outlays is approximately equal to a log-linear function of the budget deficit and private dissaving. In this exact linear relation, the budget deficit signals declines in future government outlays, after controlling for prospective changes in the tax base. Private dissaving controls for such prospective changes since, under the joint hypotheses, the present value of expected proportionate rises in tax revenues are approximately equal to a log-linear function of private dissaving. Both exact linear relations are tested in a VAR framework on annual post-World War II U.S. data. We find considerable empirical support for the theory.

Cost Benefit Analysis in Theory and Practice

Cost benefit analysis evaluates investment proposals from within the public sector. This article explains the relevant theory and provides a real world example.

Down the retirement risk zone with gun and camera

The retirement risk zone represents a fragile period in the financial life cycle of people in defined-contributions superannuation. It primarily affects people of middle means. Sequencing risk has been described as an independent risk but it has largely been a consequence of the dominant asset allocation strategy, described here as aggressive constant-mix. Lifetime glide paths should instead resemble a displaced V: the share of growth assets should fall by something like 20 to 50 percentage points over working life, then another 5 or 10 percentage points on the day of retirement, but should subsequently rise through retirement, by something like 20 to 30 percentage points.