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A Dynamic Inconsistency Problem in PAYG: A Solution to the Turkish Puzzle

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  • H. Yigit Aydede

Abstract

Because of the dynamic inconsistency problem in optimal policies of pay-as-you-go (PAYG) systems, parametric reforms tend to be unfair in terms of generational justice and could be inefficient in terms of optimal level of consumption. As long as there are adverse shocks, the planner has to decide on generational distribution of the financial burden in PAYG systems. In this paper we show that if intergenerational transfers are needed to keep the system in balance, any discretionary policy that allocates these transfers between the elderly and the young becomes dynamically inconsistent and the system moves toward being a Ponzi scheme. This may be part of the reason why the government has not been able to resist abusing the system by increasing its generosity for the elderly while expectations on social security wealth for new members have been declining for the last 40 years in Turkey.

Suggested Citation

  • H. Yigit Aydede, 2008. "A Dynamic Inconsistency Problem in PAYG: A Solution to the Turkish Puzzle," NFI Working Papers 2008-WP-07, Indiana State University, Scott College of Business, Networks Financial Institute.
    • Handle: RePEc:nfi:nfiwps:2008-wp-07
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    File URL: http://www.indstate.edu/business/sites/business.indstate.edu/files/Docs/2008-WP-07_Aydede.pdf
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    References listed on IDEAS

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    1. Anne-Marie Brook & Edward Whitehouse, 2006. "The Turkish Pension System: Further Reforms to Help Solve the Informality Problem," OECD Social, Employment and Migration Working Papers 44, OECD Publishing.
    2. H. Yigit Aydede, 2007. "Expected Social Security Wealth Simulations and Generational Fairness of the Turkish PAYG System," NFI Working Papers 2007-WP-21, Indiana State University, Scott College of Business, Networks Financial Institute.
    3. Leimer, Dean R & Lesnoy, Selig D, 1982. "Social Security and Private Saving: New Time-Series Evidence," Journal of Political Economy, University of Chicago Press, vol. 90(3), pages 606-629, June.
    4. World Bank, 2003. "Non-bank Financial Institutions and Capital Markets in Turkey," World Bank Publications - Books, The World Bank Group, number 15162.
    5. Kydland, Finn E & Prescott, Edward C, 1977. "Rules Rather Than Discretion: The Inconsistency of Optimal Plans," Journal of Political Economy, University of Chicago Press, vol. 85(3), pages 473-491, June.
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    Cited by:

    1. H. Yigit Aydede, 2008. "Intergenerational Transfers and Expectations: A Note on How a Ponzi Scheme Affects Saving," NFI Working Papers 2008-WP-11, Indiana State University, Scott College of Business, Networks Financial Institute.

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    More about this item

    Keywords

    Dynamic Inconsistency; Optimal Social Security; Social Security Wealth; Intergenerational Transfers; Life-Cycle Consumption;
    All these keywords.

    JEL classification:

    • J1 - Labor and Demographic Economics - - Demographic Economics
    • H31 - Public Economics - - Fiscal Policies and Behavior of Economic Agents - - - Household
    • E21 - Macroeconomics and Monetary Economics - - Consumption, Saving, Production, Employment, and Investment - - - Consumption; Saving; Wealth

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