Spillover Effects of Old-Age Pension Across Generations

The net cost of a policy incentivizing later retirement is the sum of the direct costs (or savings) of the government  plus any fiscal externalities as a result of delayed claiming and changed labour supply.

The mechanical net cost of incentivizing later retirement is the change in pension generosity. The government saves €7,013 per person on average through reduced pension payments.

There are several components of the fiscal externality. First, the government saves €1,833 per person on pension payments due to delayed claiming by around 5 months.

In addition, the government collects €2,445 more income taxes per person over five years because grandmothers work more between ages 60 and 64.

On the other hand, the government forgoes additional income taxes of €1,585 per person over five years due to reduced earnings by mothers.

The net cost is then -€7,013 – €1,833 – €2,445 + €1,585 = -€9,706. In other words, the government saved €9,706 per family of an affected grandmother with adult daughter whose youngest child is between age 4 and 12. This savings estimate is conservative as it does not account for the increase in earnings due to an increase in earnings from the sons-in-law of the grandmothers who work longer.

That paper notes that, if they consider the long-run reform effects on mothers’ lifetime income and assume
that government only cares about income tax revenue, the loss in tax revenue due to the drop in maternal labor supply would outweigh the gain in tax revenue from delaying the retirement of the grandmothers if the impact on maternal labor supply lasts for up to eight years. The net cost is still negative, however, aver accounting for the changes in pension payments.

Furthermore, we calculate the MVPF from a perspective of the affected grandmother’s family. If we consider the family of the affected grandfathers, the net costs will be even larger, as grandfathers delay retirement more and the spillover effects on his daughter are smaller.

The estimated MVPF of the 2006 Dutch pension reform—taking into account the response by grandmothers and their daughters—is then (-€5,306/ -€9,706) = 0.55.

The paper highlights the importance of incorporating the spillover effects by noting the MVPF would be smaller (-€1,826/-€11,291)=0.16 if the spillover effects on adult daughters were excluded from the calculation. Although the fiscal gain is smaller when considering the spillover effects, the WTP to avoid this policy also gets larger in absolute terms.

While not included in the main MVPF estimate, the paper finds positive effects on test scores for young girls and boys, and negative effects on older boys. The paper notes that, if these spillover effects on grandchildren were included, the expected impact on government tax revenue would likely be positive (or at least non-negative). This would further reduce the MVPF by increasing the net savings to the government and also increasing the absolute value of the WTP.