Knowledge that Transforms

Many observers of the current economic scene are concerned about the low rate of personal saving in the United States. One well-known researcher, Laurence Kotlikoff (1992), calls the situation a crisis. He proposes that each American worker receive an annual statement from the Social Security Administration with projected benefits upon retirement, arguing that: each of us got [this statement] our attention would be caught and perhaps our of saving, which is in such urgent need of redress, would really change (p. 107). I agree with the thrust of Kotlikoff's recommendations, and join him in applauding steps that will alter the general public's of However, as economists, we need to recognize that the economic theory of saving is similarly in urgent need of redress. If we are to understand why people are saving so little and are to make helpful recommendations as to how to get people to save more, we have to incorporate more of the of saving into our economic theories. Kotlikoff's policy proposal, while a sensible one, highlights the growing gap between theory and policy prescription in this domain. If households are acting in accordance with the life-cycle theory of saving, then undersaving is impossible, so why do they need to have their psychology redressed? And, how does this psychology fit into the model? This example reflects an increasing frustration in the economics community about personal saving. Many observers have come to the conclusion that the low saving rate represents an important problem on two fronts: macroeconomists worry that the low saving rate will produce too little investment, and microeconomists worry that individuals, particularly the baby boomers, are not putting enough away to finance a satisfactory lifestyle in retirement. These are serious concerns. However, the frustration comes from the realization that, even if there was agreement that the saving rate needs to go up, economic theory offers little help in constructing a solution. In the standard life-cycle framework the only policy variable is the after-tax rate of return to saving. Yet it is well known that the theory does not specify the sign of the relationship between the saving rate and the interest rate. Raising the interest rate increases the returns to saving but decreases the amount of saving necessary to yield any given future consumption level. Furthermore, empirical estimates offer little help. Most studies are unable to reject the hypothesis that the elasticity of personal saving with respect to the interest rate is zero. Clearly this is frustrating: the theory only gives us one lever to use, and we don't know whether to push or pull! With this background, I wish to supply what should be considered good news: the theory is misspecified. Life-cycle models of saving fail to describe actual household saving in three important ways. This failure of the theory is good news because by incorporating some basic we can enrich the theory and generate specific policy recommendations. In this paper I will begin by characterizing the problems with the theory and then go on to discussing the implications of modifying the theory.

This paper entertains the hypothesis that human time preferences are in evolutionary equilibrium (i.e., that no mutation changing time preferences could be favored by natural selection). This hypothesis implies that the marginal rate of substitution (MRS) holding Darwinian fitness constant must equal the MRS holding utility constant. Furthermore, in a market economy, the latter must equal the MRS in exchange. Exploiting these principles, the author finds that the long-term real interest rate should equal ln(2) per generation (about 2 percent per year) and that young adults should discount the future more rapidly than their elders.

In this paper we discuss some simple noncooperative models of distribution within marriage in which the equilibria are not necessarily Pareto optimal, in which history and culture can affect which equilibrium is realized, and in which distribution may depend on whether resources are controlled by the husband or by the wife. Recent moves away from single-decision-maker models of the family have permitted economists to address distribution within marriage, and cooperative-bargaining models have played the central role in these moves. The next step is to permit strategic interaction between family members, by modeling distribution within marriage as a noncooperative game. Noncooperative game theory allows great flexibility in specifying the rules of the game and, unlike cooperative game theory, imposes few a priori restrictions on the nature of equilibrium outcomes. In particular, noncooperative models neither assume nor imply that all equilibria are Pareto optimal.

The authors model the decision to replace durable capital when intensity is variable. Decisions of this type include land-redevelopment decisions where the density of residential or commercial development is a choice variable as well as capital-replacement decisions where capacity is variable. The authors provide a general yet simple formation of the problem using an optimal-stopping framework. They characterize the value of the project, the timing of investment, and the intensity of development. The authors show that intensity interacts in important ways with timing, taxes, and project values. The ability to vary intensity raises hurdle rents and delays development decisions.

This paper considers several issues relevant to the debate on the extent to which poverty, or development progress in general, should be measured by income or by a broader set of objectives. Issues covered here are: practical implications of the two approaches for poverty reduction efforts; the impact of growth on basic social indicators; and how national achievement on social indicators is best measured. Sri Lanka and Pakistan, countries often cited in this debate, are used as examples.

Social scientists have long concluded that premarital childbearing exacerbates problems of both poverty and family instability. Out-of-wedlock and adolescent childbearing may reduce a mothers educational attainment lower the probability of her eventual marriage increase her probability of welfare recipiency and decrease family income. The authors use an exogenous fertility event the birth of twins to estimate the economic effects of unplanned births. The approach compares the economic outcomes of women experiencing premarital twin first births to those experiencing premarital single first births in the attempt to identify the consequences of an unplanned birth upon womens future fertility and marital decisions education labor force participation labor earnings welfare receipt and poverty status. 1970 and 1980 US Census micro data are used to identify twin births to unmarried women. Analysis found large short-term effects of unplanned births on labor-force participation poverty and welfare recipiency among unwed mothers but not among married mothers. Furthermore most adverse economic effects of unplanned motherhood dissipate over time for whites but larger and more persistent negative effects weigh upon black unwed mothers.

The authors analyze the problem faced by a financially weak independent inventor when selling a valuable, but easily imitated, invention for which no property rights exist. The inventor can protect his or her intellectual property by negotiating a contingent contract (with a buyer) prior to revealing the invention or, alternatively, the inventor can reveal the invention and then negotiate with the newly informed buyer. Despite the risk of expropriation, the authors find that, in equilibrium, an inventor with little wealth can expect to appropriate a sizable share of the market value of the invention by adopting the latter approach.