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FACING DEMOGRAPHIC CHALLENGES: PENSION CUTS OR TAX HIKES?

Published online by Cambridge University Press:  21 February 2018

George Kudrna,
Chung Tran and
Alan Woodland
George Kudrna
Affiliation:
University of New South Wales
Chung Tran
Affiliation:
Australian National University
Alan Woodland*
Affiliation:
University of New South Wales
*
Address correspondence to: Alan Woodland, School of Economics, University of New South Wales, Sydney NSW 2052, Australia; e-mail: a.woodland@unsw.edu.au.
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Abstract

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A challenge that faces many advanced economies is how to finance age-related spending programs as the population ages. In this paper, we investigate two policy options–pension cuts and tax hikes–to mitigate fiscal pressure arising in the special context of Australia, whose population is ageing fast while growing substantially in size due to immigration. Using a computable overlapping generations model, we find that while both policy reforms can achieve a similar fiscal goal, they lead to different distributional and welfare effects across income groups over time. Future generations prefer pension cuts, whereas current generations prefer tax hikes to finance government spending commitments. Moreover, within the tax hike option, taxing income or consumption results in opposing macroeconomic and welfare effects. Indeed, our opposing intra- and inter-temporal welfare outcomes highlight some political complexity when devising a more sustainable tax-transfer system.

Keywords

Demographic TransitionFiscal PolicyWelfareOverlapping Generations

Information

Type
Articles
Information
Macroeconomic Dynamics , Volume 23 , Issue 2 , March 2019, pp. 625 - 673
Copyright
Copyright © Cambridge University Press 2018 

Footnotes

We would like to thank participants of the 11th International WEAI Conference in New Zealand, Pension and Superannuation Workshop at the UNSW, the CEPAR/CESifo Tax and Pension Workshop, and seminars at the ANU Tax and Transfer Policy Institute, Osaka University, UNSW, Wurzburg University, Queensland University of Technology and Hanoi National Economics University for comments and feedback. This research was supported by the Australian Research Council Centre of Excellence in Population Ageing Research (CEPAR) under grant CE110001029. This paper uses unit record data from the Household, Income and Labour Dynamics in Australia (HILDA) Survey. The HILDA Project was initiated and is funded by the Australian Government Department of Social Services (DSS) and is managed by the Melbourne Institute of Applied Economic and Social Research (Melbourne Institute). The findings and views reported in this paper, however, are those of the author and should not be attributed to either DSS or the Melbourne Institute.

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