wealth accumulation and portfolio choice with taxable and tax-deferred accounts 0 francisco gomes,...

Wealth accumulation and portfolio choice with taxable and tax-deferred accounts

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Francisco Gomes, Alexander Michaelides, Valery Polkovnichenko

Discussion by: Otto van Hemert

March 2005


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The paper• Household wealth accumulation and portfolio

choice• For both

– direct stockholders (DS), and– indirect stockholders (IS)

• In both the– Taxable Account (TA), and– Tax-deferred account (TDA)

• Main focus on accumulation phase where uninsurable labor income risk figures prominently


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Paper is part of a larger research agenda: Gomes-Michaelides (2004)

• Match empirical stock market participation and asset allocation in a life-cycle model

• Key features– disentangle risk aversion and elasticity of intertemporal

substitution (EIS) a la Epstein-Zin (1989).

– fixed stock market entry cost

– heterogeneity in risk aversion

• Make no difference TA and TDA• Less focus on wealth accumulation


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Four contributions

I. Discuss empirical evidence on wealth accumulation and portfolio choice for DS and IS in TA and TDA separately

II. Develop life-cycle model and find investor preferences that match empirical evidence

III. Implications sub-optimal contribution rates to TDA

IV. Impact introduction TDAs on wealth accumulation and asset allocation


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Empirical findings• Us population divided by stockholder status

1998 2001– Non-stockholders: 65.4% 47.1%– Indirect stockholders: 13.6% 21.4%– Direct stockholders: 21.0% 31.5%

• Differences DS vs. IS– DS have more significant financial savings in TA;

IS basically have their net-housing wealth as TA– DS have higher wealth/income ratio.


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The life-cycle model• The preference parameters:

– DS: high risk-aversion, high EIS– IS: low risk-aversion, low EIS

• Empirical fact that DS have higher wealth/income ratio is matched– High risk-aversion high precautionary saving– High EIS willingness to exploit high return on

savings by postponing much consumption

• Known puzzle that retirees decumulate too slow remains…


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Exogenous assumption that IS hold no stocks in TA

• GMP justify this by noticing the empirical liquid taxable wealth is too little too pay a one-time stock market participation cost

• But in the model net housing wealth is included in taxable wealth?! DS can invest this in stocks

• Somewhat inconsistent attitude towards net housing wealth

• Deeper question: can you increase mortgage to consume or invest the proceeds?


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Provide further intuition on the difference between DS and IS

• Economic story behind tying high (low) risk aversion to high (low) EIS?

• Empirically, who are the DS and IS?– Labor income level– Education (proxy for intelligence)– Female or male head of household– Number of car accidents involved in

• If eg income level matters, then scale independent model might be misleading


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Extension: sub-optimal contribution rates to TDA

• Cost of following a fixed contribution rate is small.• Cost of “one-size-fits-all” is high• If a fixed contribution rate is imposed, then

optimally set it below average from optimal decisions– GMP: too low consumption for liquidity constrained

young is very costly– Also over-investment in TDA is harder to compensate (in

TA) than under-investment in TDA? Related to Adair Turner’s presentation last Tuesday


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Extension: introduction of a TDA

• In the presence of a TDA, some households hold stocks only indirectly (exogenous in model, justification discussed)

• What if those same households are confronted with a situation with no TDA?

• They might start to invest in stocks themselves!

• Cannot maintain exogenous assumption they do not invest in stocks in TA


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Concluding Remarks• A nice and ambitious paper!

• Better justify exogenous non-participation in stock market by IS

• Provide further intuition on the difference between DS and IS

• Is the analysis on the impact of the introduction of a TDA not too much?

wealth accumulation and portfolio choice with taxable and tax-deferred accounts 0 francisco gomes,...

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