Demographic transition, pensions, and entrepreneurship

In our model with overlapping generations and endogenous entrepreneurship of the US economy, we show that the demographic transition will reduce the numbers of entrepreneurs significantly. Output will fall by more than 10%. If, during the transition, debt increases from 75% to 125%, output will even fall by 15%.

Pension policies in the form of smaller pensions and a higher retirement age are able to alleviate this problem. While the former has a more marked effect on savings, the latter has a bigger effect on the prevalence of entrepreneurship.

Objectives:

1. Aging will have an effect on the prevalence of entrepreneurship. The household’s choice to become a worker or an entrepreneur depends on age, wealth, and individual productivity. Empirically, the entrepreneurial share is a hump-shaped function of age. We develop a 60-period overlapping generations model in the tradition of Auerbach and Kotlikoff (1986) that is able to replicate this effect. In this model, we are able to study the effect of the demographic transition on the prevalence of entrepreneurship. This question is crucial for the growth perspectives of modern industrialized economies such as the US economy where economic growth and innovation sensitively depend on entrepreneurial activity.

2. In addition, we study the question of public pension reforms. Due to the demographic transition, the public pension system is no longer affordable and needs to be reformed. We consider the following reform proposals: 1) higher contribution rates, 2) lower pensions, and 3) higher retirement age. The pension reform will significantly affect the individual’s choice to become an entrepreneur because the worker (who is taking part in the public pay-as-you-go pension systems) will suffer from a loss of the return on his contributions to the public pension system, while the entrepreneur (who is not contributing to the public pension system) will not.

Expected Results: 

We show that the demographic transition will reduce the numbers of entrepreneurs significantly. Output will fall by more than 10%. If, during the transition, debt increases from 75% to 125%, output will even fall by 15%. Pension policies in the form of smaller pensions and a higher retirement age are able to alleviate this problem. While the former has a more marked effect on savings, the latter has a bigger effect on the prevalence of entrepreneurship.