Consumption and life insurance decisions under hyperbolic discounting and taxation

In this study, we investigates the time-inconsistent agent's optimal consumption, life insurance purchase, and investment decisions under a tax system. We find analytically that the marginal propensity to consume (MPC) for the time-inconsistent (naïve or sophisticated) agent is larger than that...

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Bibliographic Details
Published in:Economic modelling 2021-01, Vol.94, p.288-295
Main Authors: Koo, Ja Eun, Lim, Byung Hwa
Format: Article
Language:English
Subjects:
Hyperbolic discounting
Insufficient life insurance puzzle
Life-insurance
Taxation
Time-inconsistent preference
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Summary:In this study, we investigates the time-inconsistent agent's optimal consumption, life insurance purchase, and investment decisions under a tax system. We find analytically that the marginal propensity to consume (MPC) for the time-inconsistent (naïve or sophisticated) agent is larger than that of the time-consistent agents. Based on the numerical results, we show that the time-inconsistent preferences result in a lower demand for life insurance, which may explain why people purchase insufficient life insurance. Further, the sophisticated agent reacts more sensitively to an insurance tax rate increase than the time-consistent agent. •We study the time-inconsistent agent's optimal decision problem under a tax system.•The time-inconsistent preference could explain the life insurance puzzle.•The MPC for the time-inconsistent agent is higher than that of the time-consistent agent.•The time-inconsistent preference amplifies the effects of the insurance tax rate increase.
ISSN:0264-9993
1873-6122
DOI:10.1016/j.econmod.2020.10.003