Budgetary stringency and growing populations are obliging governments in a number of countries to contemplate cutbacks in retirement and unemployment benefit systems. In designing such reforms it is important to minimize the impact on household welfare and to avoid undesirable incentive effects. Precisely where such cuts should be made within a given benefit system is a difficult question, however.
This paper attempts to provide a framework within which such questions may be addressed. In particular, it examines the implications for household welfare, incentives, and net tax payments of a series of specific possible rule changes in the Polish pension and unemployment benefit system. The framework used is a dynamic programming model of a household facing a detailed set of tax rates, benefit entitlements, and retirement possibilities. The household’s optimal labor supply, savings decisions, and choice of retirement date are obtained by numerical solution. This model builds very directly on earlier work by Perraudin and Pujol (1993).
The kind of reforms that are analyzed include reductions in retirement benefit payments to penalize early retirement, income tapers on post-retirement income, and changes in the way in which labor income is averaged over the life-cycle in order to calculate pension benefits. The impact of such reforms on savings, welfare, labor supply, and taxes is examined. A sensitivity analysis is performed to establish the degree to which changes in the assumed parameters of the model affect the simulations.