Wealth Shocks, Endogenous Retirement, and Consumption

• In Event: Economic Shocks and Retirement Choices

Abstract

We use a lifecycle model and causal empirical methods to study how individuals respond to changes
in wealth. First, we show that endogenous retirement provides substantial insurance against wealth
shocks. In a simple model with constant wages over the life cycle and fixed costs of work that do
not vary with age, individuals fully insure wealth shocks by adjusting their retirement date, keeping
consumption constant. We use a calibrated life cycle model to show that this retirement margin
is still powerful when wages vary over the life cycle. This dominant role for retirement has been
underappreciated when studying how consumption responds to wealth and income shocks, and suggests
that consumption and retirement responses to shocks should be considered together. Next, we use data
from the Health and Retirement Study and a stacked difference-in-differences design to estimate the
effects of receiving an inheritance on retirement and consumption. We find strong evidence of increases
in retirement but little to no evidence of changes in consumption, consistent with the idea that, in
practice, extensive-margin labor supply responses dwarf consumption responses to changes in wealth.

Authors

• Aspen Gorry, Clemson University

• Erin Cottle Hunt, Reed College

• Jonathan Leganza, Clemson University