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    Optimal Illiquidity
    06 Oct 2020Working Paper Summaries

    Optimal Illiquidity

    by John Beshears, James J. Choi, Christopher Clayton, Christopher Harris, David Laibson, and Brigitte C. Madrian
    This paper evaluates the optimality of retirement savings systems, finding that the best mix is a three-account system with a perfectly liquid savings account, a partially illiquid savings account (with an early-withdrawal penalty of approximately 10%), and a completely illiquid savings account.
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    Author Abstract

    We calculate the socially optimal level of illiquidity in an economy populated by households with taste shocks and present bias (Amador, Werning, and Angeletos 2006). The government chooses mandatory contributions to respective spending/savings accounts, each with a different pre-retirement withdrawal penalty. Penalties collected by the government are redistributed through the tax system. When naive households have heterogeneous present bias, the social optimum is well approximated by a three-account system: (i) a completely liquid account, (ii) a completely illiquid account, and (iii) an account with a ~10% early withdrawal penalty. In some ways this resembles the U.S. system, which includes completely liquid accounts, completely illiquid Social Security, and 401(k)/IRA accounts with a 10% early withdrawal penalty. The social optimum is also well approximated by an even simpler two-account system—(i) a completely liquid account and (ii) a completely illiquid account—which is the most common retirement system in the world today.

    Paper Information

    • Full Working Paper Text
    • Working Paper Publication Date: July 2020
    • HBS Working Paper Number: NBER Working Paper Series, No. 27459
    • Faculty Unit(s): Negotiation, Organizations & Markets
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    John Beshears
    John Beshears
    Terrie F. and Bradley M. Bloom Associate Professor of Business Administration
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