Longevity and the challenge for public policy An application to housing policy Andrew Coleman Motu Economic and Public Policy Research

The challenge Increasing longevity raises issues about the funding of pensions and healthcare in old age. It also has major implications for young and working age people as they fund their own or others old age expenditure. If we maintain our defined benefit pension policy, we will have higher taxes on working age people. This may have unforseen implications.

The challenge Our current institutions were designed for one age structure and may not work well for a different age structure. As longevity increases, we may need to rethink and redesign our political and social institutions (Diamond).

One path forward: computer based modelling Agent- based modelling provides a means of exploring how different policies will simultaneously affect people who differ by age, income and wealth……..and who expect to age themselves. The basic framework is the Modigliani-Brumberg lifecycle model (1953), aggregating agents with many different characteristics and attitudes.

Example: longevity, pensions, and housing In recent work, I have explored how pension design may affect housing choices (and welfare) as longevity increases. Increasing longevity is likely to increase demand for big houses as old people live for longer in the big houses they lived in when they were 60

Increasing Longevity

more people Increasing Longevity

more people Increasing Longevity more pensions

more people Increasing Longevity more pensions more medical expenses

more people Increasing Longevity more pensions more medical expenses Higher taxes

How does increasing longevity affect younger people? Higher house prices

How does increasing longevity affect younger people? There is likely to be a squeeze on young people as they face higher house prices and have lower take home pay….. …..offset by the need to save more

Modelling technique Design an overlapping generation lifecycle model with four cohorts, each with 400 forward looking agents differing by income and wealth Careful modelling of housing market (rental, ownership, different sized houses), borrowing constraints, and tax system.

Modelling technique Analyse how the effect of pension design and housing supply affect housing choices and welfare when longevity increases by 8 years.

Perfectly elastic supply (Prices constant) Elastic Supply (Prices rise 20%) No increase in total pensions No new taxes Young owning: + 2% Young large: +1% Old large +29% % new houses large 90% Young owning: -6% Young large: -4% Old large +32% % new houses large 100% Pension spending rises New labour taxes Young owning: - 6% Young large: -7% Old large +30% % new houses large 80% Young owning: -16% Young large: -9% Old large +28% % new houses large 88%

Perfectly elastic supply (Prices constant) Elastic Supply (Prices rise 20%) No increase in total pensions No new taxes Young owning: + 2% Young large: +1% Old large +29% % new houses large 90% Young owning: -6% Young large: -4% Old large +32% % new houses large 100% Pension spending rises New labour taxes Young owning: - 6% Young large: -7% Old large +30% % new houses large 80% Young owning: -16% Young large: -9% Old large +28% % new houses large 88%

Perfectly elastic supply (Prices constant) Elastic Supply (Prices rise 20%) No increase in total pensions No new taxes Young owning: + 2% Young large: +1% Old large +29% % new houses large 90% Young owning: -6% Young large: -4% Old large +32% % new houses large 100% Pension spending rises New labour taxes Young owning: - 6% Young large: -7% Old large +30% % new houses large 80% Young owning: -16% Young large: -9% Old large +28% % new houses large 88%

Perfectly elastic supply (Prices constant) Elastic Supply (Prices rise 20%) No increase in total pensions No new taxes Young owning: + 2% Young large: +1% Old large +29% % new houses large 90% Young owning: -6% Young large: -4% Old large +32% % new houses large 100% Pension spending rises New labour taxes Young owning: - 6% Young large: -7% Old large +30% % new houses large 80% Young owning: -16% Young large: -9% Old large +28% % new houses large 88%

Perfectly elastic supply (Prices constant) Elastic Supply (Prices rise 20%) No increase in total pensions No new taxes Young owning: + 2% Young large: +1% Old large +29% % new houses large 90% Young owning: -6% Young large: -4% Old large +32% % new houses large 100% Pension spending rises New labour taxes Young owning: - 6% Young large: -7% Old large +30% % new houses large 80% Young owning: -16% Young large: -9% Old large +28% % new houses large 88%

Perfectly elastic supply (Prices constant) Elastic Supply (Prices rise 20%) No increase in total pensions No new taxes Young owning: + 2% Young large: +1% Old large +29% % new houses large 90% Young owning: -6% Young large: -4% Old large +32% % new houses large 100% Pension spending rises New labour taxes Young owning: - 6% Young large: -7% Old large +30% % new houses large 80% Young owning: -16% Young large: -9% Old large +28% % new houses large 88%

Perfectly elastic supply (Prices constant) Elastic Supply (Prices rise 20%) No increase in total pensions No new taxes Young owning: + 2% Young large: +1% Old large +29% % new houses large 90% Young owning: -6% Young large: -4% Old large +32% % new houses large 100% Pension spending rises New labour taxes Young owning: - 6% Young large: -7% Old large +30% % new houses large 80% Young owning: -16% Young large: -9% Old large +28% % new houses large 88%

Perfectly elastic supply (Prices constant) Elastic Supply (Prices rise 20%) No increase in total pensions No new taxes Young owning: + 2% Young large: +1% Old large +29% % new houses large 90% Young owning: -6% Young large: -4% Old large +32% % new houses large 100% Pension spending rises New labour taxes Young owning: - 6% Young large: -7% Old large +30% % new houses large 80% Young owning: -16% Young large: -9% Old large +28% % new houses large 88%

Perfectly elastic supply (Prices constant) Elastic Supply (Prices rise 20%) No increase in total pensions No new taxes Young owning: + 2% Young large: +1% Old large +29% % new houses large 90% Young owning: -6% Young large: -4% Old large +32% % new houses large 100% Pension spending rises New labour taxes Young owning: - 6% Young large: -7% Old large +30% % new houses large 80% Young owning: -16% Young large: -9% Old large +28% % new houses large 88%

Summary: in the model increasing longevity reduces the fraction of young (25-45) households owning by 16 % reduces the fraction of young households in large houses by 9% increases the fraction of older households in large houses by 30% requires % of new houses to be large Approximately half of the effect comes from taxes increase, and half from prices

A few NZ facts In NZ data: fraction 65+ living in 3brm houses increased 9% between 1996 and 2006 Homeownership rates for 30 yr olds have declined by 20% since 1991 Most new houses are big

Most new houses are big houses

Conclusion Our current institutions were designed for one age structure and may not work well for a different age structure. Models suggest increasing longevity, in conjunction with the current pension system, may lead to increasing housing pressure on young people

Summary Haiku The young pay taxes So the old live in mansions They wanted when young.