Pensions with heterogenous individuals and endogenous fertility ∗

This paper studies the design of pension schemes in a society where fertility is endogenous and parents differ in their ability to raise children. In a world with perfect information, a pay-as-you-go social security system is characterized by equal pensions for all but different contributions which may or may not increase with the number of children. Additionally, fertility must be subsidized at the margin to correct for the externality that accompanies fertility. In a world of asymmetric information, incentive-related distortions supplement the Pigouvian subsidy. These may either require an additional subsidy or an offsetting tax on fertility depending on whether the redistribution is towards people with more or less children. In the former case, pensions are decreasing in the number of children; in the latter case, they are increasing. ∗This paper has be presented at the CESifo Delta Conference (Munich, November 2004) “Optimal strategies for reforming PAYGO and funded pensions”, the “Fifth Workshop of the Finret RTN network” (Toulouse, December 2004), the Conference in Tribute to Jean-Jacques Laffont (Toulouse, July 2005) and in a seminar at the University of Bologna. We thank the participants and particularly the discussants, Vincenzo Galasso and Selahittin Imrohorogly, for their comments. †University of Toulouse (IDEI and GREMAQ), 21 allée de Brienne, 31000 Toulouse, France ‡Department of Economics, University of Illinois at Urbana-Champaign, Champaign, IL 61820, USA §CREPP, University of Liège and CORE, 7, bd du Rectorat, 4000 Liège, Belgium