Economy wide risk diversification in a three-pillar pension system

Cai Cai Du, Joan Muysken, Olaf Sleijpen
Maastricht University, The Netherlands

We model a three-pillar pension system and analyse the impact of exogenous shocks on the aggregate economy, using an overlapping generations model where individuals live for two periods. The three-pillar pension system consists of (1) a PAYG pension system, (2) a Defined Benefits pension fund, and (3) private savings. The economy is exposed to an ageing trend, a stock market crash and inflation. We show that in the three-pillar pension system the impact of these shocks on the economy is mitigated when compared to a system in which pensions are only funded through one or two of these pillars. The reason is that each shock has a different impact on the three pillars. In order to illustrate the working of the model with respect to the impact of shocks, both magnitude and development over time, we provide simulation results for the Netherlands.

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