Incentive Schemes to Delay Retirement and the Equilibrium Interplay with Human Capital Investment

Abstract

This article introduces the role of labor demand of the elderly in the analysis of retirement decisions. We integrate both human capital formation and up-dating costs on older workers' job and explore how Social Security system affects human capital investment and retirement decisions. We show that, from the worker''s point of view, human capital investment and retirement age decisions are interdependent and positively related. On the one hand, an actuarially unfair pay-as-you-go system imposes a tax on postponed retirement which encourages early retirement, thus reducing incentives to invest in human capital. On the other hand, the pension system imposes a tax on training intensity. As a result, workers have less incentives to continue working. From the firm''s point of view, this implies an indirect tax on labor demand due to the decrease in older workers'' productivity. We then examine the pattern of the optimal policies according to flexibility versus rigidity of wages.