Laurence Kotlikoff
Encyclopedia
Laurence Jacob Kotlikoff (born January 30, 1951) is a William Warren FairField Professor at Boston University
, a Professor of Economics at Boston University
, a Fellow of the American Academy of Arts and Sciences
, a Research Associate of the National Bureau of Economic Research, a Fellow of the Econometric Society, a former Senior Economist, President’s Council of Economic Advisers
, and President of Economic Security Planning, Inc., a company that markets ESPlanner - an economics-based personal financial planning software program, a simplified version of which is available on-line for free use by the public.
Kotlikoff has written that the economic future is bleak for the United States without tax reform, health care reform
, and Social Security reform
in his book The Coming Generational Storm
and other publications. Kotlikoff is a supporter of the FairTax
proposal, contributing to research of plan's effects and the required rate for revenue neutrality. He was an economic adviser to formerly Democratic
candidate Mike Gravel
during the 2008 Democratic Primary. Kotlikoff once mentioned that the American economy is already unknowingly bankrupted and mentioning it as "[I] t is engaging in Enron
accounting" to describe the situation.
At UCLA, Kotlikoff wrote (with Avia Spivak) a seminal paper on intra-family risk-sharing entitled "The Family as an Incomplete Annuities Market." He also wrote (with Lawrence Summers) a widely cited paper questioning the importance of saving for retirement in determining total U.S. wealth accumulation. This paper, entitled "The Role of Intergeneration Transfers in Aggregate Capital Formation(http://www.kotlikoff.net/sites/default/files/The%20Role%20of%20Intergenerational%20Transfers%20in%20Aggregate%20Capital%20Formation.pdf)," suggested that most of U.S. wealth accumulation was not attributed to life-cycle saving, but rather to private intergenerational transfers (whether intended or unintended). The article was the subject of a lively debate between Kotlikoff and Franco Modigliani
, who won the Nobel Prize in part for his work on the life-cycle model.
Demographically realistic overlapping generations models, in which agents can live upwards to 100 years, are very complicated mathematical structures. Agents who are young will, if they are rational, consider all future interest rates and wage rates in deciding how much to save and work in the current as well as in their remaining future years. The path of interest rates and wage rates will, in turn, depend on the course of the economy's relative supplies of capital and labor, since these relative supplies determine whether capital or labor is relatively scarce in any given future year and, therefore, what these factors of production will get paid in the competitive market.
The paths of capital and labor will be determined by the aggregation of the saving and labor supply decisions of the individual agents alive through time. Thus a young person's decision about consuming and working today depends, in part, on what he believes will be the interest and wage rates when he's middle age and old, for example, age 90. But the value of these factor prices when he's age 90 depend on how much capital and labor will be around in that year. But this depends, in part, on the saving and labor supply of unborn generations who will be saving and working when he reaches old age. In short, the economic decisions of one generation are interlinked with those of others because of general equilibrium considerations in which each year's collective supplies of capital and labor must equal that year's aggregate demands for these inputs. And the path of interest and wage rates must be such as to clear (equate supplies to their respective demands) these factor markets at each point in time.
Under standard assumptions about the nature of technology and in the simplest framework (which can be extended to more than two inputs), this problem devolves into a 200-plus order non-linear difference equation in the ratio of capital to labor. This ratio summaries both the relative supplies of and demands for the two factors. In equilibrium, the ratio of factor inputs supplied each year must equal the ratio of factor inputs demanded. And since the path of the capital-labor ratio determines the path of the interest and wage rate, which determine both the annual supply of and demand for the two factors of production, the problem boils down to finding the precise path of the capital-labor ratio that will draw forth from extant households each year aggregate supplies of capital and labor that exactly match each year's respective aggregate demands for capital and labor by firms.
There are no mathematical techniques for calculation the exact solution of high order non-linear difference equations. (The Scarf Algorithm cannot be used in this context because the number of markets is infinite; i.e., there is no assumed end of the world.) Auerbach and Kotlikoff devised an iterative solution method that entails guessing how the economy's ratio of capital to labor will evolve and then updating the guesses based on deviations of annual capital and labor supplies from their respective annual demands and continuing in this manner until the economy's capital-labor transition path converges to a fixed-point path (more precisely, until the guessed ratio of the annual demands for capital relative to labor equal the annual supplies of capital relative to labor).
Prior to the development of the Auerbach-Kotlikoff model, economists had no means of assessing how a realistic life-cycle economy would evolve, including the timing of its responses to a wide range of fiscal and demographic changes. For example, economists had no means of saying how much capital would be available to the economy in each future year were the government to increase its consumption on a permanent basis and finance that higher level of consumption by raising income tax rates.
If the government calls a receipt a "tax," this lowers the reported deficit. If, instead, it calls the receipt "borrowing," it raises the reported deficit. Thus, if you give the government, say, $1,000 this year, it can say it is taxing you $1,000 this year. Alternatively, it can say it is borrowing $1,000 from you this year and will be taxing you in, say, five years the $1,000 plus accrued interest and using this future tax to pay you the principal plus interest due on the current borrowing. With one set of words the deficit is $1,000 larger this year than with the other set of words. If it so chose, the government could say it was taxing you $1,000 this year and also, this year, borrowing $1 trillion from you for, say, five years, making a transfer payment to you this year of $1 trillion, and taxing you in five years an amount equal to principal plus interest on the $1 trillion and using it to pay principal plus interest on the $1 trillion it is now borrowing. With this alternative choice of words, the reported deficit is $1 trillion larger than with the first set of words. But in all three examples, you hand over $1,000 this year and receive and pay zero on net in the future.
Einstein taught us that neither time, nor distance are well-defined physical concepts. Instead, their measurement is relative to our frame of reference—how fast we were traveling in the universe and in what direction. Our physical frame of reference can be viewed as our language or labeling convention. Einstein showed that neither time nor distance were well-defined concepts, but could be measured in an infinite number of ways. The same is true of the deficit. Just like absolute time and distance are not well defined, the deficit and related conventional fiscal measures has no economic meaning .
In what may be Kotlikoff's most important work , he (together with Harvard's Jerry Green) provided a general proof of the proposition that deficits and a number of other conventional fiscal measures are economically speaking content-free. The paper -- "On the General Relativity of Fiscal Language" (see http://www.kotlikoff.net/sites/default/files/General%20Relativity%207-6-07%20posted%20January%203,%202008.pdf) -- shows that the deficit is simply an arbitrary figment of language in all economic models involving rational agents. Such models can feature all manner of individual and aggregate uncertainty, incomplete markets, distortionary fiscal policy, asymmetric information, borrowing constraints, time-inconsistent government policy, and a host of other problems, yet "the" deficit will still bear no theoretical connection to real policy-induced economic outcomes. The reason, again, is that there is no single deficit, but rather an infinity of deficit or surplus policy paths that can be announced (by the government or any private agent) simply by choosing the "right" fiscal labels.
In Kotlikoff's words, using the deficit as a guide to fiscal policy is like driving in LA with a map of NY . For unlike in our physical world in which we are all using the same language (have the same frame of reference), in the world of economics, we are each free to adopt our own frame of reference—our own labeling convention. Thus, if Joe wants to claim that the U.S. federal government ran enormous surpluses for the last 50 years, he can simply choose appropriate words to label historic receipts and payments to produce that time series. If Sally wishes to claim the opposite, there are words she can find to "justify" her view of the past stance of fiscal policy. And if Sam wishes to claim that that economy has experienced fluctuations from deficits to surpluses of arbitrary magnitude from year to year, he can do so. Language is extremely flexible. And there is nothing in economic theory that pins down how we discuss economic theory.
The fact, as shown by Kotlikoff and Green , that the fiscal variables in all mathematical economic models involving rational agents can be labeled freely and tell us nothing about the models themselves (no more than does choosing to discuss the models in French or English), means that the multitudinous econometric studies relating well-defined economic variables, such as interest rates or aggregate personal consumption, to "the" deficit are, economically speaking, content free.
The deficit is not the only variable that is not well defined. An economy's aggregate tax revenue, its aggregate transfer payments, its disposable income, its personal and private saving rates, and its level of private wealth—all are non-economic concepts that have, from the perspective of economic theories with rational agents, no more purchase on economic reality than does the emperor's clothes in Hans Christian Anderson's famous "children's" story.
Kotlikoff chose the title of his paper with Green not to suggest in the slightest any comparison of intellect with Einstein, but rather because of what seemed to him to be a strikingly similar message about confusing linguistics for substance . An example here is the definition of a capitalistic economy as one in which capital is primarily owed by the private sector. Kotlikoff's work shows that an economy which is described as having predominately privately owned wealth can just as well be described as one in which wealth is predominantly or, for that matter, entirely state-owned. Hence, "deficit delusion" implies that economic theory offers no precise measure/definition of capitalism, socialism, or communism.
Kotlikoff's singly and jointly authored work in the 1980s and 1990 called this model into question on both theoretical and empirical grounds. In a paper entitled "Altruistic Linkages within the Extended Family: A Note (1983)," which appears in Kotlikoff's 1989 MIT Press book What Determines Savings? Kotlikoff showed that when agents take each other's transfers as given, marriage generates intergenerational linkages between unrelated individuals. I.e., if you, Steve, are altruistic toward your daughter, Sue, and your daughter marries John, who is altruistically linked to his father Ed, who has a daughter Sara who is altruistic toward her husband David, who cares about his sister Ida, who's cares about her father-in-law Frank, you Steve are altrusitically linked to Frank. Furthermore, if Steve loses a dollar and you gain a dollar, Barro's model implies that you Steve will take your new found dollar and hand it to Frank. Kyle Bagwell and Douglas Bernheim independently reached Kotlikoff's conclusion, namely that the Barro model had patently absurd implications.
Together with Assaf Razin and Robert Rosenthal, Kotlikoff showed in http://www.kotlikoff.net/sites/default/files/A%20Strategic%20Altruism%20Model%20Ricardian%20Equivalence%20hold.pdf that dropping the unrealistic assumption that transfers are taken as given and permitting individuals to refuse transfers (e.g., refusing your mother's offer of an extra helping of cabbage) invalidates Barro's proposition of Ricardian Equivalence. I.e., they showed that Barro's model was a combination of a plausible set of preferences (altruism toward one's children) and an implausible assumption about the game being played by donors and donees.
In a series of empirical papers with Stanford economist Michael Boskin, University of Pennsylvania economist Andrew Abel, Yale economist Joseph Altonji, and Tokyo University economist Fumio Hayashi, Kotlikoff and his co-authors showed that there was little, if any, empirical support for Barro's very special model of intergenerational altruism.
Notwithstanding his many studies overturning Ricardian Equivalence, on both theoretical and empirical grounds, Kotlikoff has a paper showing why intergenerational transfers may have no impact on the economy in a world of purely selfish life-cycle agents. The argument presented is simple. Once younger generations have been maximally exploited by older generations (who are assumed to have the ability to redistribute from the young to themselves), older generations can no longer extract resources for free, meaning they can no longer leave higher fiscal burdens for future generations without handing over a quid pro quo. At such an extreme, intergenerational transfers, per se, are no longer feasible because the young will refuse to accept them.
Kotlikoff's 2007 book, The Healthcare Fix, proposed a system of vouchers somewhat similar to Paul Ryan's current plan. His proposal is that every American would receive a voucher that would have to be honored by insurance companies. The amount of the voucher would be adjusted for the costs to the insurance company of the person's coverage--i.e.sicker people would have their voucher amount increased. Kotlikoff has denounced critics of the plan such as economist Paul Krugman and President Obama for demagoguery over word voucher--arguing that the current health care law relies on vouchers.
He argues that the current Medicare program is unsustainable and that we have no choice but to embrace a plan with vouchers in this Business Week op-ed.
Kotlikoff fervently dislikes both political parties and has called for a third party, which he hopes will save America.
Boston University
Boston University is a private research university located in Boston, Massachusetts. With more than 4,000 faculty members and more than 31,000 students, Boston University is one of the largest private universities in the United States and one of Boston's largest employers...
, a Professor of Economics at Boston University
Boston University
Boston University is a private research university located in Boston, Massachusetts. With more than 4,000 faculty members and more than 31,000 students, Boston University is one of the largest private universities in the United States and one of Boston's largest employers...
, a Fellow of the American Academy of Arts and Sciences
American Academy of Arts and Sciences
The American Academy of Arts and Sciences is an independent policy research center that conducts multidisciplinary studies of complex and emerging problems. The Academy’s elected members are leaders in the academic disciplines, the arts, business, and public affairs.James Bowdoin, John Adams, and...
, a Research Associate of the National Bureau of Economic Research, a Fellow of the Econometric Society, a former Senior Economist, President’s Council of Economic Advisers
Council of Economic Advisers
The Council of Economic Advisers is an agency within the Executive Office of the President that advises the President of the United States on economic policy...
, and President of Economic Security Planning, Inc., a company that markets ESPlanner - an economics-based personal financial planning software program, a simplified version of which is available on-line for free use by the public.
Kotlikoff has written that the economic future is bleak for the United States without tax reform, health care reform
Health care reform
Health care reform is a general rubric used for discussing major health policy creation or changes—for the most part, governmental policy that affects health care delivery in a given place...
, and Social Security reform
Social Security debate (United States)
This article concerns proposals to change the Social Security system in the United States. Social Security is a social insurance program officially called "Old-Age, Survivors, and Disability Insurance" , in reference to its three components. It is primarily funded through a dedicated payroll tax...
in his book The Coming Generational Storm
The Coming Generational Storm
The Coming Generational Storm: What You Need to Know about America's Economic Future is a book by Laurence J. Kotlikoff and Scott Burns....
and other publications. Kotlikoff is a supporter of the FairTax
FairTax
The FairTax is a tax reform proposal for the federal government of the United States that would replace all federal taxes on personal and corporate income with a single broad national consumption tax on retail sales. The Fair Tax Act would apply a tax once at the point of purchase on all new goods...
proposal, contributing to research of plan's effects and the required rate for revenue neutrality. He was an economic adviser to formerly Democratic
Democratic Party (United States)
The Democratic Party is one of two major contemporary political parties in the United States, along with the Republican Party. The party's socially liberal and progressive platform is largely considered center-left in the U.S. political spectrum. The party has the lengthiest record of continuous...
candidate Mike Gravel
Mike Gravel
Maurice Robert "Mike" Gravel is a former Democratic United States Senator from Alaska, who served two terms from 1969 to 1981, and a former candidate in the 2008 presidential election....
during the 2008 Democratic Primary. Kotlikoff once mentioned that the American economy is already unknowingly bankrupted and mentioning it as "
Enron
Enron Corporation was an American energy, commodities, and services company based in Houston, Texas. Before its bankruptcy on December 2, 2001, Enron employed approximately 22,000 staff and was one of the world's leading electricity, natural gas, communications, and pulp and paper companies, with...
accounting" to describe the situation.
Research
Kotlikoff's thesis examined, in a life-cycle simulation model, the impact of intergenerational redistribution on the long-run position of the economy. He also studied whether the rich spend a larger or smaller share of their lifetime resources than do the poor. And he provided a new empirical approach to understanding the impact of Social Security on saving.At UCLA, Kotlikoff wrote (with Avia Spivak) a seminal paper on intra-family risk-sharing entitled "The Family as an Incomplete Annuities Market." He also wrote (with Lawrence Summers) a widely cited paper questioning the importance of saving for retirement in determining total U.S. wealth accumulation. This paper, entitled "The Role of Intergeneration Transfers in Aggregate Capital Formation(http://www.kotlikoff.net/sites/default/files/The%20Role%20of%20Intergenerational%20Transfers%20in%20Aggregate%20Capital%20Formation.pdf)," suggested that most of U.S. wealth accumulation was not attributed to life-cycle saving, but rather to private intergenerational transfers (whether intended or unintended). The article was the subject of a lively debate between Kotlikoff and Franco Modigliani
Franco Modigliani
Franco Modigliani was an Italian economist at the MIT Sloan School of Management and MIT Department of Economics, and winner of the Nobel Memorial Prize in Economics in 1985.-Life and career:...
, who won the Nobel Prize in part for his work on the life-cycle model.
The Auerbach-Kotlikoff model
Together with Alan Auerbach, a Professor of Economics at the University of California Berkeley, Kotlikoff developed, beginning in 1979, the first computable general equilibrium model of dynamic life-cycle economies. Their model (summarized in their 1987 Cambridge University Press book, Dynamic Fiscal Policy) is being used by economists to compute the perfect foresight transition paths of closed and open economies experiencing complexity demographic and fiscal policy changes in settings with multiple goods and different worker skill groups (see, for example, http://www.kotlikoff.net/sites/default/files/Globalization.pdf).Demographically realistic overlapping generations models, in which agents can live upwards to 100 years, are very complicated mathematical structures. Agents who are young will, if they are rational, consider all future interest rates and wage rates in deciding how much to save and work in the current as well as in their remaining future years. The path of interest rates and wage rates will, in turn, depend on the course of the economy's relative supplies of capital and labor, since these relative supplies determine whether capital or labor is relatively scarce in any given future year and, therefore, what these factors of production will get paid in the competitive market.
The paths of capital and labor will be determined by the aggregation of the saving and labor supply decisions of the individual agents alive through time. Thus a young person's decision about consuming and working today depends, in part, on what he believes will be the interest and wage rates when he's middle age and old, for example, age 90. But the value of these factor prices when he's age 90 depend on how much capital and labor will be around in that year. But this depends, in part, on the saving and labor supply of unborn generations who will be saving and working when he reaches old age. In short, the economic decisions of one generation are interlinked with those of others because of general equilibrium considerations in which each year's collective supplies of capital and labor must equal that year's aggregate demands for these inputs. And the path of interest and wage rates must be such as to clear (equate supplies to their respective demands) these factor markets at each point in time.
Under standard assumptions about the nature of technology and in the simplest framework (which can be extended to more than two inputs), this problem devolves into a 200-plus order non-linear difference equation in the ratio of capital to labor. This ratio summaries both the relative supplies of and demands for the two factors. In equilibrium, the ratio of factor inputs supplied each year must equal the ratio of factor inputs demanded. And since the path of the capital-labor ratio determines the path of the interest and wage rate, which determine both the annual supply of and demand for the two factors of production, the problem boils down to finding the precise path of the capital-labor ratio that will draw forth from extant households each year aggregate supplies of capital and labor that exactly match each year's respective aggregate demands for capital and labor by firms.
There are no mathematical techniques for calculation the exact solution of high order non-linear difference equations. (The Scarf Algorithm cannot be used in this context because the number of markets is infinite; i.e., there is no assumed end of the world.) Auerbach and Kotlikoff devised an iterative solution method that entails guessing how the economy's ratio of capital to labor will evolve and then updating the guesses based on deviations of annual capital and labor supplies from their respective annual demands and continuing in this manner until the economy's capital-labor transition path converges to a fixed-point path (more precisely, until the guessed ratio of the annual demands for capital relative to labor equal the annual supplies of capital relative to labor).
Prior to the development of the Auerbach-Kotlikoff model, economists had no means of assessing how a realistic life-cycle economy would evolve, including the timing of its responses to a wide range of fiscal and demographic changes. For example, economists had no means of saying how much capital would be available to the economy in each future year were the government to increase its consumption on a permanent basis and finance that higher level of consumption by raising income tax rates.
"Deficit delusion"
In 1984 Kotlikoff wrote a fundamental paper entitled "Deficit Delusion", which appeared in The Public Interest. This was the first of a series of papers and books (see, e.g., Generational Accounting and Generational Policy) by Kotlikoff showing, via examples, that in economic models featuring rational agents, "the" deficit is a figment of language, not economics. I.e., the deficit is not economically well defined. Instead, what governments measure as "the" deficit is entirely a result of the language they use to label government receipts and payments.If the government calls a receipt a "tax," this lowers the reported deficit. If, instead, it calls the receipt "borrowing," it raises the reported deficit. Thus, if you give the government, say, $1,000 this year, it can say it is taxing you $1,000 this year. Alternatively, it can say it is borrowing $1,000 from you this year and will be taxing you in, say, five years the $1,000 plus accrued interest and using this future tax to pay you the principal plus interest due on the current borrowing. With one set of words the deficit is $1,000 larger this year than with the other set of words. If it so chose, the government could say it was taxing you $1,000 this year and also, this year, borrowing $1 trillion from you for, say, five years, making a transfer payment to you this year of $1 trillion, and taxing you in five years an amount equal to principal plus interest on the $1 trillion and using it to pay principal plus interest on the $1 trillion it is now borrowing. With this alternative choice of words, the reported deficit is $1 trillion larger than with the first set of words. But in all three examples, you hand over $1,000 this year and receive and pay zero on net in the future.
Einstein taught us that neither time, nor distance are well-defined physical concepts. Instead, their measurement is relative to our frame of reference—how fast we were traveling in the universe and in what direction. Our physical frame of reference can be viewed as our language or labeling convention. Einstein showed that neither time nor distance were well-defined concepts, but could be measured in an infinite number of ways. The same is true of the deficit. Just like absolute time and distance are not well defined, the deficit and related conventional fiscal measures has no economic meaning .
In what may be Kotlikoff's most important work , he (together with Harvard's Jerry Green) provided a general proof of the proposition that deficits and a number of other conventional fiscal measures are economically speaking content-free. The paper -- "On the General Relativity of Fiscal Language" (see http://www.kotlikoff.net/sites/default/files/General%20Relativity%207-6-07%20posted%20January%203,%202008.pdf) -- shows that the deficit is simply an arbitrary figment of language in all economic models involving rational agents. Such models can feature all manner of individual and aggregate uncertainty, incomplete markets, distortionary fiscal policy, asymmetric information, borrowing constraints, time-inconsistent government policy, and a host of other problems, yet "the" deficit will still bear no theoretical connection to real policy-induced economic outcomes. The reason, again, is that there is no single deficit, but rather an infinity of deficit or surplus policy paths that can be announced (by the government or any private agent) simply by choosing the "right" fiscal labels.
In Kotlikoff's words, using the deficit as a guide to fiscal policy is like driving in LA with a map of NY . For unlike in our physical world in which we are all using the same language (have the same frame of reference), in the world of economics, we are each free to adopt our own frame of reference—our own labeling convention. Thus, if Joe wants to claim that the U.S. federal government ran enormous surpluses for the last 50 years, he can simply choose appropriate words to label historic receipts and payments to produce that time series. If Sally wishes to claim the opposite, there are words she can find to "justify" her view of the past stance of fiscal policy. And if Sam wishes to claim that that economy has experienced fluctuations from deficits to surpluses of arbitrary magnitude from year to year, he can do so. Language is extremely flexible. And there is nothing in economic theory that pins down how we discuss economic theory.
The fact, as shown by Kotlikoff and Green , that the fiscal variables in all mathematical economic models involving rational agents can be labeled freely and tell us nothing about the models themselves (no more than does choosing to discuss the models in French or English), means that the multitudinous econometric studies relating well-defined economic variables, such as interest rates or aggregate personal consumption, to "the" deficit are, economically speaking, content free.
The deficit is not the only variable that is not well defined. An economy's aggregate tax revenue, its aggregate transfer payments, its disposable income, its personal and private saving rates, and its level of private wealth—all are non-economic concepts that have, from the perspective of economic theories with rational agents, no more purchase on economic reality than does the emperor's clothes in Hans Christian Anderson's famous "children's" story.
Kotlikoff chose the title of his paper with Green not to suggest in the slightest any comparison of intellect with Einstein, but rather because of what seemed to him to be a strikingly similar message about confusing linguistics for substance . An example here is the definition of a capitalistic economy as one in which capital is primarily owed by the private sector. Kotlikoff's work shows that an economy which is described as having predominately privately owned wealth can just as well be described as one in which wealth is predominantly or, for that matter, entirely state-owned. Hence, "deficit delusion" implies that economic theory offers no precise measure/definition of capitalism, socialism, or communism.
Generational accounting
Kotlikoff's realization that conventional fiscal measures were incapable of measuring economic policy fundamentals prompted him to call in the mid 1980s for the development of generational accounting to measure directly the concern underlying "the" deficit, namely the fiscal burden being placed on today's and tomorrow's children. Together with Alan Auerbach and Jagadeesh Gokhale, Kotlikoff produced the first set of generational accounts for the U.S. in the late 1980s. This analysis produced a label-free (language-free) measure of the burdens facing young and future generations. Generational accounting quickly spread to other countries and, to date, has been applied to the fiscal policies of over 35 countries in both developed and developing countries.Intergenerational altruism
Kotlikoff has done pioneering work testing intergenerational altruism -- the proposition that current generations care about their descendants enough to ensure that government redistribution from their descendants to themselves will be offset by private redistribution back to the descendants either in the form of bequests or intervivos gifts. This proposition dates to David Ricardo, who raised it as a theoretical, but empirically irrelevant proposition. In 1974, in a famous article, Robert Barro revived "Ricardian Equivalence" by showing in a simple, elegant framework that each generation's caring about its children leads current generations to be altruistically linked to all their descendants. Hence, a government policy of transferring resources to current older generations at a cost to generations born, say, in 100 years would induce the current elderly to simply increase their gifts and bequests to their children who would pass the resources onward until it reached those born in 100 years. This inter-linkage of current and future generations devolves into a mathematical model which is isomorphic to one in which all agents are infinitely lived (i.e., they act as if they live for ever in so far as their progeny are front and center in their preferences). The infinitely-lived model was originally posited by Frank Ramsey in the 1920s. It's aggregation properties make it very convenient for teaching macro economics because one does not have to deal with the messiness of upwards of 100 overlapping generations acting independently, but also interdependently. Consequently, it has become a mainstay in graduate macroeconomics training and underlies the work by Economics Nobel Laureate Ed Prescott and other economists on Real Business Cycle models.Kotlikoff's singly and jointly authored work in the 1980s and 1990 called this model into question on both theoretical and empirical grounds. In a paper entitled "Altruistic Linkages within the Extended Family: A Note (1983)," which appears in Kotlikoff's 1989 MIT Press book What Determines Savings? Kotlikoff showed that when agents take each other's transfers as given, marriage generates intergenerational linkages between unrelated individuals. I.e., if you, Steve, are altruistic toward your daughter, Sue, and your daughter marries John, who is altruistically linked to his father Ed, who has a daughter Sara who is altruistic toward her husband David, who cares about his sister Ida, who's cares about her father-in-law Frank, you Steve are altrusitically linked to Frank. Furthermore, if Steve loses a dollar and you gain a dollar, Barro's model implies that you Steve will take your new found dollar and hand it to Frank. Kyle Bagwell and Douglas Bernheim independently reached Kotlikoff's conclusion, namely that the Barro model had patently absurd implications.
Together with Assaf Razin and Robert Rosenthal, Kotlikoff showed in http://www.kotlikoff.net/sites/default/files/A%20Strategic%20Altruism%20Model%20Ricardian%20Equivalence%20hold.pdf that dropping the unrealistic assumption that transfers are taken as given and permitting individuals to refuse transfers (e.g., refusing your mother's offer of an extra helping of cabbage) invalidates Barro's proposition of Ricardian Equivalence. I.e., they showed that Barro's model was a combination of a plausible set of preferences (altruism toward one's children) and an implausible assumption about the game being played by donors and donees.
In a series of empirical papers with Stanford economist Michael Boskin, University of Pennsylvania economist Andrew Abel, Yale economist Joseph Altonji, and Tokyo University economist Fumio Hayashi, Kotlikoff and his co-authors showed that there was little, if any, empirical support for Barro's very special model of intergenerational altruism.
National saving
In life-cycle models without operative intergenerational altruism, the young are the big savers because of every dollar they receive, they save a larger percentage than do the elderly for the simple reason that the elderly are closer to the ends of their lives and want to use it before they lose it. The unborn are, of course, the biggest savers because giving them an extra dollar (that they will be able to collect with interest when they arrive) leads them to consume nothing more in the present because they aren't yet alive. So taking from the young and unborn and giving to the elderly should lead to a decline in national saving. In a 1996 paper (see http://www.kotlikoff.net/sites/default/files/Understanding%20the%20Postwar%20Decline%20in%20US%20Saving%20A%20Cohort%20Analysis,%20%20Brookings%201996.pdf) with Jagadeesh Gokhale and John Sablehaus, Kotlikoff showed that the ongoing massive redistribution from young and future savers to old savers was responsible for the postwar decline in U.S. saving.Notwithstanding his many studies overturning Ricardian Equivalence, on both theoretical and empirical grounds, Kotlikoff has a paper showing why intergenerational transfers may have no impact on the economy in a world of purely selfish life-cycle agents. The argument presented is simple. Once younger generations have been maximally exploited by older generations (who are assumed to have the ability to redistribute from the young to themselves), older generations can no longer extract resources for free, meaning they can no longer leave higher fiscal burdens for future generations without handing over a quid pro quo. At such an extreme, intergenerational transfers, per se, are no longer feasible because the young will refuse to accept them.
Policy reform
Kotlikoff has actively proposed extremely simple reforms of the U.S. financial system, tax system, health care system, and retirement income system. His proposed reform of the financial system, discussed in Jimmy Stewart Is Dead, called Limited Purpose Banking, transforms all financial companies with limited liability, including incorporated banks, insurance companies, financial exchanges, and hedge funds, into pass-through mutual funds, which do not borrow to invest in risky assets, but, instead, allows the public to directly choose what risks it wishes to bear by purchasing more or less risky mutual funds. Limited Purpose Banking keeps banks, insurance companies, hedge funds and other financial corporations from borrowing short and lending long and leaving the public to pick up the pieces when things go south. Instead, it forces financial intermediaries to limit their activities to their sole legitimate purpose—financial inter-mediation. Limited Purpose Banking substitutes the vast array of extant federal and state financial regulatory bodies with a single financial regulator called the Federal Financial Authority (FFA). The FFA would have a narrow purpose namely to verify, disclosure, and oversee the independent rating and custody off all securities purchased and sold by mutual funds.Kotlikoff's 2007 book, The Healthcare Fix, proposed a system of vouchers somewhat similar to Paul Ryan's current plan. His proposal is that every American would receive a voucher that would have to be honored by insurance companies. The amount of the voucher would be adjusted for the costs to the insurance company of the person's coverage--i.e.sicker people would have their voucher amount increased. Kotlikoff has denounced critics of the plan such as economist Paul Krugman and President Obama for demagoguery over word voucher--arguing that the current health care law relies on vouchers.
He argues that the current Medicare program is unsustainable and that we have no choice but to embrace a plan with vouchers in this Business Week op-ed.
Kotlikoff fervently dislikes both political parties and has called for a third party, which he hopes will save America.
Publications
- Laurence J. Kotlikoff, 1987, “social security," The New Palgrave: A Dictionary of Economics, v. 4, pp. 413–18. Stockton Press
- Laurence J. Kotlikoff, 1992, Generational Accounting, The Free Press
- Laurence J. Kotlikoff, 2006, "Is the United States Bankrupt?," Federal Reserve Bank of St. Louis Review, July/August, 88(4), pp. 235–49.
- Laurence J. Kotlikoff, October 22, 2006. "Drifting to Future Bankruptcy." The Philadelphia Inquirer
- *Laurence J. Kotlikoff and Scott Burns (2004). The Coming Generational Storm: What You Need to Know about America's Economic Future. MIT PressMIT PressThe MIT Press is a university press affiliated with the Massachusetts Institute of Technology in Cambridge, Massachusetts .-History:...
. ISBN 0-262-11286. Description and chapter-preview links, p. vii. - Laurence J. Kotlikoff and Scott Burns, 2008. Spend 'til the End: The Revolutionary Guide to Raising Your Living Standard - Today and When You Retire', Simon & Schuster. Description and Preview link to chapter links, via right-arrow at top to pp. 11–12.