Journal Article

Uncertain Medical Expenses and Precautionary Saving Near the End of the Life Cycle

Michael G. Palumbo

in The Review of Economic Studies

Published on behalf of Review of Economic Studies Ltd

Volume 66, issue 2, pages 395-421
Published in print April 1999 | ISSN: 0034-6527
Published online April 1999 | e-ISSN: 1467-937X | DOI: http://dx.doi.org/10.1111/1467-937X.00092
Uncertain Medical Expenses and Precautionary Saving Near the End of the Life Cycle

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This paper introduces a dynamic, structural model of household consumption decisions in which elderly families consider the effects of uncertain future medical expenses when deciding current levels of consumption. The model with uncertain medical expenses implies a potentially important role for precautionary saving incentives to explain slow rates of dissaving among elderly Americans during retirement. Rather than just simulating the stochastic dynamic model, preference parameters are estimated using panel data on health, wealth and expenditures for retired families. The health uncertainty model predicts consumption levels closer to observed expenditures than a life cycle model with uncertain longevity. However, elderly families typically dissave their financial assets more slowly than even the baseline health uncertainty model predicts is optimal.

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Subjects: Economics

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