DISCUSSION PAPER PI-0204 Redistribution and Insurance: Mandatory Annuitization with Mortality Heterogeneity

This paper examines the distributional implications of mandatory longevity insurance when there is mortality heterogeneity in the population. Previous research has demonstrated the significant financial redistribution that occurs under alternative annuity programs in the presence of differential mortality across groups. This paper embeds that analysis into a life cycle framework that allows for an examination of distributional effects on a utility-adjusted basis. It finds that the degree of redistribution that occurs from the introduction of a mandatory annuity program is substantially lower on a utility-adjusted basis than when evaluated on a purely financial basis. Complete annuitization is shown to be optimal even when annuities are not actuarially fair for each individual, so long as administrative costs are sufficiently low and there are no bequest motives. These findings have implications for policy toward annuitization, particularly as part of a reformed Social Security system. The author is grateful to the Center for Retirement Research at Boston College for financial support and to two anonymous referees for helpful comments.