New Economics Papers
on Financial Markets
Issue of 2005‒08‒28
eight papers chosen by

  1. Investment Choice in the Swedish Premium Pension Plan By Marten Palme; Annika Sunden; Paul Soderlind
  2. Design and Implementation Issues in Swedish Individual Pension Accounts By R. Kent Weaver
  3. The Impact of Hedging on Stock Return and Firm Value: New Evidence from Canadian Oil and Gas Companies By Chang Dan; Hong Gu; Kuan Xu
  4. Lashed to the Mast?: The Politics of Notional Defined Contribution Pension Reforms By Sarah M. Brooks; R. Kent Weaver
  5. Is lumpy investment really irrelevant for the business cycle? By Tommy Sveen; Lutz Weinke
  6. Does Work Pay at Older Ages? By Barbara A. Butrica; Richard W. Johnson; Karen E. Smith; Eugene Steuerle
  7. Developer's Expertise and the Dynamics of Financial Innovation: Theory and Evidence By Helios Herrera; Enrique Schroth
  8. Understanding Expenditure Patterns in Retirement By Barbara A. Butrica; Joshua H. Goldwyn; Richard W. Johnson

  1. By: Marten Palme (Stockholm University); Annika Sunden (Swedish National Social Insurance Board); Paul Soderlind (University of St. Gallen)
    Abstract: In 1998, Sweden passed a pension reform that introduced a second tier of mandatory individual accounts, the Premium Pension, in the public system. Of the total contribution rate of 18.5 percent, 2.5 percentage points go to the accounts. The first investment selections in the Premium Pension plan took place in the fall of 2000 when all Swedes born after 1938 were able to choose how to invest their contributions from a menu of about 650 mutual funds. Approximately 70 percent of participants made an "active choice" while the remaining participants' contributions were invested in a government-run default fund. This paper examines investment choice in the Swedish individual account scheme. First, do workers with high risk in their human capital diversify their overall portfolio by investing their pension funds in low-risk funds? Second, to what extent do participants exhibit "home bias" and invest their pension funds in Swedish assets? The results show a positive relationship between income and the level of risk in the portfolio. But, looking into the details, the relationship is actually somewhat U-shaped: low-income investors take on more risk than middle-income earners. It also seems as if women who qualify for the guarantee benefit (low-income earners) take on more risk than motivated by their situation. We also find that workers in the manufacturing sector - that is, the sector that is probably most correlated with the Swedish stock market - are less likely to invest in foreign assets and thus are exhibiting "home bias."
    Keywords: Sweden, pension system, portfolio
    JEL: H55 G11 D81
    Date: 2005–04
  2. By: R. Kent Weaver (The Brookings Institution)
    Abstract: Sweden's new multi-pillar pension system includes a system of mandatory fully-funded individual accounts. The Swedish system tries to keep administrative costs down through centralized management of the collection of contributions, switching among fund options, and record-keeping and communication with account holders. The Swedish system offers contributors more than 600 fund options. However, in the most recent rounds of fund choice, more than 90 percent of new labor market entrants have not made an active choice of funds, and thus have ended up in a government-sponsored default fund. The Swedish system of individual accounts offers a number of lessons for countries considering adoption of a mandatory individual account tier. First, centralized administration of record-keeping, communication and trading functions can help to keep administrative costs down. Second, the lead time needed to set up such a system is considerable. Third, if entry barriers for funds are low, a very large number of fund options are likely to be offered. Fourth, engaging new labor market entrants in fund choice is likely to be difficult, and these barriers are likely to be particularly high for some groups-notably those with limited incomes and low English language skills. Fifth, in the absence of entry barriers for funds, a significant percentage of those making an active fund choice may choose funds that are very specialized and risky. Finally, the likelihood of limited active fund choice means that special care must be devoted both to the design of a default fund and to communicating to potential participants what asset allocation and risk-return trade-offs the default fund is likely to make.
    Keywords: Sweden, pension system, mandatory
    JEL: H55
    Date: 2005–04
  3. By: Chang Dan; Hong Gu; Kuan Xu (Department of Economics and Department of Mathematics and Statistics, Dalhousie University)
    Abstract: This paper analyzes the impact of hedging activities of large Canadian oil and gas companies on their stock returns and firm value. Differing from the existing literature this research finds that some of these relationships are nonlinear based on the framework of nonlinear generalized additive models. The research based on this more general methodology reveals some interesting findings on oil and gas hedging activities. The large Canadian oil and gas firms are able to use hedging to protect downside risk against the unfavorable oil and gas price changes. But oil hedging appears to be more effective in protecting stock returns than gas hedging is when downside risk presents. In addition, oil and gas reserves are more likely to play a positive (negative) role when the oil and gas prices are increasing (decreasing). Finally, hedging, in particular hedging on gas, together with profitability, investment and leverage, has certain impacts on firm value.
    Keywords: oil; gas; hedging; return; firm value; general additive models ; Canada
    JEL: G10 G30
    Date: 2005–08–22
  4. By: Sarah M. Brooks (Ohio State University); R. Kent Weaver (The Brookings Institution)
    Abstract: Over the past decade, a number of countries have adopted a new form of pension system known as "notional defined contribution" (NDC) pensions. Like traditional defined benefit (DB) pensions, NDC pensions operate largely on a pay-as-you-go basis, but base benefits on total lifetime contributions rather than those in a specified number of peak earnings years. Payroll tax rates are (at least in theory) permanently fixed, while adjustments necessitated by demographic change and slow economic growth are automatically made on the benefit side. The authors argue that adoption of NDC-based reforms reflects political as well as policy considerations. The article analyzes a variety of conditions that have led some countries to adopt NDC-based reforms while such reforms have not even reached the agenda in others. The authors point out a number of problems that may arise during implementation of NDC-based reforms that undercut their potential benefits, and argue that erosion of NDC-based reforms is more likely than outright reversal.
    Keywords: pension system, notional defined contribution, NDC, reform
    JEL: H55
    Date: 2005–01
  5. By: Tommy Sveen (Norges Bank); Lutz Weinke (Universitat Pompeu Fabra)
    Abstract: New-Keynesian (NK) models can only account for the dynamic effects of monetary policy shocks if it is assumed that aggregate capital accumulation is much smoother than it would be the case under frictionless firm-level investment, as discussed in Woodford (2003, Ch. 5). We find that lumpy investment, when combined with price stickiness and market power of firms, can rationalize this assumption. Our main result is in stark contrast with the conclusions obtained by Thomas (2002) in the context of a real business cycle (RBC) model. We use our model to explain the economic mechanism behind this difference in the predictions of RBC and NK theory.
    Keywords: Lumpy investment, Sticky prices
    JEL: E22 E31 E32
    Date: 2005–08–19
  6. By: Barbara A. Butrica (Urban Institute); Richard W. Johnson (Urban Institute); Karen E. Smith (Urban Institute); Eugene Steuerle (Urban Institute)
    Abstract: Encouraging work at older ages is a critical policy goal for an aging society, but many features of the current system of benefits and taxes provide strong work disincentives. The implicit tax rate on work increases rapidly at older ages, approaching 50 percent for some workers by age 70. In addition, by age 65 people can typically receive nearly as much in retirement as they can by working. If older Americans could overcome these barriers and delay retirement, they could substantially improve their economic well-being at older ages. For example, many people could increase their annual consumption at older ages by more than 25 percent by simply retiring at age 67 instead of age 62.
    Keywords: aging, older workers, retirement, taxes
    JEL: J14 H24
    Date: 2004–11
  7. By: Helios Herrera; Enrique Schroth
    Date: 2005–08–19
  8. By: Barbara A. Butrica (Urban Institute); Joshua H. Goldwyn (Urban Institute); Richard W. Johnson (Urban Institute)
    Abstract: Understanding the consumption needs of retirees is critical to assessing the adequacy of retirement income and the possible impact of Social Security reform on the well-being of older Americans. This study uses data from the Health and Retirement Study, including a recent supplemental expenditure survey, to analyze spending patterns and consumption needs for adults ages 65 and older. Results indicate that typical older married adults spend 84 percent of after-tax household income, and nonmarried adults spend 92 percent of after-tax income. Even at older ages individuals devote a larger share of their expenditures and income to housing than any other category of goods and services, including health care. Fully 8 percent of married adults report after-tax incomes that fall short of our estimated basic-needs threshold, consisting of housing, health care, food, and clothing. By comparison, only 3 percent of married adults have incomes below the official poverty level.
    Keywords: consumption, retirees, spending, income, expenditures
    JEL: E21 J14 J12
    Date: 2005–01

General information on the NEP project can be found at For comments please write to the director of NEP, Marco Novarese at <>. Put “NEP” in the subject, otherwise your mail may be rejected.
NEP’s infrastructure is sponsored by the School of Economics and Finance of Massey University in New Zealand.