[go: up one dir, main page]
IDEAS home Printed from https://ideas.repec.org/a/eee/jfinec/v101y2011i1p18-35.html
   My bibliography  Save this article

The effect of regulation on optimal corporate pension risk

Author

Listed:
  • Love, David A.
  • Smith, Paul A.
  • Wilcox, David W.
Abstract
We study firms' pension prefunding and portfolio allocation choices in a model in which firms trade off the need to compensate workers for the financial risk in their pension benefit against the cost advantage that may be gained by exploiting underpriced pension insurance. In the absence of pension insurance, the firm minimizes costs by rendering promised benefits free of risk to workers, who are assumed to be unable to hedge firm-specific risk. Various forms of government intervention, such as benefit guarantees, can alter this outcome dramatically by providing the firm with an incentive to shift risk to other parties. In this case, we find that the firm's decisions depend on, among other influences, the degree of insurance mispricing, the amount of guaranteed benefits, the stringency of minimum funding requirements, and the costs of financial distress.

Suggested Citation

  • Love, David A. & Smith, Paul A. & Wilcox, David W., 2011. "The effect of regulation on optimal corporate pension risk," Journal of Financial Economics, Elsevier, vol. 101(1), pages 18-35, July.
    • Handle: RePEc:eee:jfinec:v:101:y:2011:i:1:p:18-35
    as

    Download full text from publisher

    File URL: http://www.sciencedirect.com/science/article/pii/S0304405X11000493
    Download Restriction: Full text for ScienceDirect subscribers only
    ---><---

    As the access to this document is restricted, you may want to search for a different version of it.

    References listed on IDEAS

    as
    1. Coronado, Julia & Mitchell, Olivia S. & Sharpe, Steven A. & Blake Nesbitt, S., 2008. "Footnotes aren't enough: the impact of pension accounting on stock values," Journal of Pension Economics and Finance, Cambridge University Press, vol. 7(3), pages 257-276, November.
    2. Hall, Brian J. & Murphy, Kevin J., 2002. "Stock options for undiversified executives," Journal of Accounting and Economics, Elsevier, vol. 33(1), pages 3-42, February.
    3. John Y. Campbell & Martin Lettau & Burton G. Malkiel & Yexiao Xu, 2001. "Have Individual Stocks Become More Volatile? An Empirical Exploration of Idiosyncratic Risk," Journal of Finance, American Finance Association, vol. 56(1), pages 1-43, February.
    4. Montgomery, Edward & Shaw, Kathryn & Benedict, Mary Ellen, 1992. "Pensions and Wages: An Hedonic Price Theory Approach," International Economic Review, Department of Economics, University of Pennsylvania and Osaka University Institute of Social and Economic Research Association, vol. 33(1), pages 111-128, February.
    5. Julia Lynn Coronado & Steven A. Sharpe, 2003. "Did Pension Plan Accounting Contribute to a Stock Market Bubble?," Brookings Papers on Economic Activity, Economic Studies Program, The Brookings Institution, vol. 34(1), pages 323-371.
    6. Jeffrey R. Brown, 2008. "Guaranteed Trouble: The Economic Effects of the Pension Benefit Guaranty Corporation," Journal of Economic Perspectives, American Economic Association, vol. 22(1), pages 177-198, Winter.
    7. Irwin Tepper, 1981. "Taxation and Corporate Pension Policy," NBER Working Papers 0661, National Bureau of Economic Research, Inc.
    8. Jeremy I. Bulow & Myron S. Scholes, 1983. "Who Owns the Assets in a Defined-Benefit Pension Plan?," NBER Chapters, in: Financial Aspects of the United States Pension System, pages 17-36, National Bureau of Economic Research, Inc.
    9. repec:bla:jfinan:v:58:y:2003:i:3:p:975-1008 is not listed on IDEAS
    10. Love, David & Smith, Paul A. & Wilcox, David, 2007. "Why Do Firms Offer Risky Defined–Benefit Pension Plans?," National Tax Journal, National Tax Association;National Tax Journal, vol. 60(3), pages 507-519, September.
    11. Treynor, Jack L, 1977. "The Principles of Corporate Pension Finance," Journal of Finance, American Finance Association, vol. 32(2), pages 627-638, May.
    12. Altman, Edward I, 1984. "A Further Empirical Investigation of the Bankruptcy Cost Question," Journal of Finance, American Finance Association, vol. 39(4), pages 1067-1089, September.
    13. Robert Novy-Marx & Joshua D. Rauh, 2009. "The Liabilities and Risks of State-Sponsored Pension Plans," Journal of Economic Perspectives, American Economic Association, vol. 23(4), pages 191-210, Fall.
    14. repec:bla:jfinan:v:53:y:1998:i:5:p:1443-1493 is not listed on IDEAS
    15. Jeremy I. Bulow, 1982. "What are Corporate Pension Liabilities?," The Quarterly Journal of Economics, President and Fellows of Harvard College, vol. 97(3), pages 435-452.
    16. Sharpe, William F., 1976. "Corporate pension funding policy," Journal of Financial Economics, Elsevier, vol. 3(3), pages 183-193, June.
    17. Smith, Robert Stewart, 1981. "Compensating Differentials for Pensions and Underfunding in the Public Sector," The Review of Economics and Statistics, MIT Press, vol. 63(3), pages 463-468, August.
    18. Tepper, Irwin, 1981. "Taxation and Corporate Pension Policy," Journal of Finance, American Finance Association, vol. 36(1), pages 1-13, March.
    19. Jeffrey R. Brown & David W. Wilcox, 2009. "Discounting State and Local Pension Liabilities," American Economic Review, American Economic Association, vol. 99(2), pages 538-542, May.
    20. Francesco Franzoni & José M. Marín, 2006. "Pension Plan Funding and Stock Market Efficiency," Journal of Finance, American Finance Association, vol. 61(2), pages 921-956, April.
    21. Sundaresan, Suresh & Zapatero, Fernando, 1997. "Valuation, Optimal Asset Allocation and Retirement Incentives of Pension Plans," The Review of Financial Studies, Society for Financial Studies, vol. 10(3), pages 631-660.
    22. Joshua D. Rauh, 2009. "Risk Shifting versus Risk Management: Investment Policy in Corporate Pension Plans," The Review of Financial Studies, Society for Financial Studies, vol. 22(7), pages 2487-2533, July.
    Full references (including those not matched with items on IDEAS)

    Citations

    Citations are extracted by the CitEc Project, subscribe to its RSS feed for this item.
    as


    Cited by:

    1. Guan, Yanling & Tang, Dragon Yongjun, 2018. "Employees' risk attitude and corporate risk taking: Evidence from pension asset allocations," Journal of Corporate Finance, Elsevier, vol. 48(C), pages 261-274.
    2. Iqbal Owadally, 2014. "Tail risk in pension funds: an analysis using ARCH models and bilinear processes," Review of Quantitative Finance and Accounting, Springer, vol. 43(2), pages 301-331, August.
    3. Thomas Url, 2015. "Altersvorsorgesysteme in Europa," WIFO Studies, WIFO, number 57913, March.
    4. Rauh, Joshua D. & Stefanescu, Irina & Zeldes, Stephen P., 2020. "Cost saving and the freezing of corporate pension plans," Journal of Public Economics, Elsevier, vol. 188(C).
    5. repec:dau:papers:123456789/13624 is not listed on IDEAS
    6. Romaniuk, Katarzyna, 2019. "Premiums of the Pension Benefit Guarantee Corporation and risk-taking by pension plans," The Quarterly Review of Economics and Finance, Elsevier, vol. 74(C), pages 301-307.
    7. Margaret J. Lay, 2020. "Pension Regulation, Firm Borrowing, and Investment Risk," Journal of Risk & Insurance, The American Risk and Insurance Association, vol. 87(4), pages 935-968, December.
    8. Ling-Ni Boon & Marie Brière & Carole Gresse & Bas J. M. Werker, 2013. "Regulatory Environment and Pension Investment Performance," Post-Print hal-01492619, HAL.
    9. Romaniuk, Katarzyna, 2021. "Pension insurance schemes and moral hazard: The Pension Benefit Guaranty Corporation should restrict the insured pension plans’ portfolio policy," The Quarterly Review of Economics and Finance, Elsevier, vol. 82(C), pages 37-43.
    10. Joshua D. Rauh & Irina Stefanescu & Stephen P. Zeldes, 2020. "Cost Saving and the Freezing of Corporate Pension Plans," NBER Working Papers 27251, National Bureau of Economic Research, Inc.
    11. repec:dau:papers:123456789/13629 is not listed on IDEAS
    12. Gaobo Pang & Mark Warshawsky, 2013. "Comparing Costs and Risks of Retirement Plans for Sponsors," Risk Management and Insurance Review, American Risk and Insurance Association, vol. 16(2), pages 195-217, September.
    13. Artem Dyachenko & Patrick Ley & Marc Oliver Rieger & Alexander F. Wagner, 2022. "The asset allocation of defined benefit pension plans: the role of sponsor contributions," Journal of Asset Management, Palgrave Macmillan, vol. 23(5), pages 376-389, September.
    14. Katarzyna Romaniuk, 2020. "Does surplus/deficit sharing increase risk-taking in a corporate defined benefit pension plan?," Decisions in Economics and Finance, Springer;Associazione per la Matematica, vol. 43(1), pages 229-249, June.

    Most related items

    These are the items that most often cite the same works as this one and are cited by the same works as this one.
    1. David A. Love & Paul A. Smith & David W. Wilcox, 2009. "Should risky firms offer risk-free DB pensions?," Finance and Economics Discussion Series 2009-20, Board of Governors of the Federal Reserve System (U.S.).
    2. Goto, Shingo & Yanase, Noriyoshi, 2021. "Pension return assumptions and shareholder-employee risk-shifting," Journal of Corporate Finance, Elsevier, vol. 70(C).
    3. Boubaker, Sabri & Gounopoulos, Dimitrios & Nguyen, Duc Khuong & Paltalidis, Nikos, 2017. "Assessing the effects of unconventional monetary policy and low interest rates on pension fund risk incentives," Journal of Banking & Finance, Elsevier, vol. 77(C), pages 35-52.
    4. An, Heng & Huang, Zhaodan & Zhang, Ting, 2013. "What determines corporate pension fund risk-taking strategy?," Journal of Banking & Finance, Elsevier, vol. 37(2), pages 597-613.
    5. Boon, L.N. & Brière, M. & Rigot, S., 2018. "Regulation and pension fund risk-taking," Journal of International Money and Finance, Elsevier, vol. 84(C), pages 23-41.
    6. Michael J. Alderson & Neil L. Seitz, 2013. "Pension Policy and the Value of Corporate-Level Investment," Financial Management, Financial Management Association International, vol. 42(2), pages 413-440, June.
    7. Alan Marcus, 1987. "Corporate Pension Policy and the Value of PBGC Insurance," NBER Chapters, in: Issues in Pension Economics, pages 49-80, National Bureau of Economic Research, Inc.
    8. David McCarthy & David Miles, 2013. "Optimal Portfolio Allocation for Corporate Pension Funds," European Financial Management, European Financial Management Association, vol. 19(3), pages 599-629, June.
    9. Boubaker, Sabri & Gounopoulos, Dimitrios & Nguyen, Duc Khuong & Paltalidis, Nikos, 2015. "Assessing the effects of unconventional monetary policy on pension funds risk incentives," MPRA Paper 73398, University Library of Munich, Germany, revised Aug 2016.
    10. Michael Kisser & John Kiff & Mauricio Soto, 2017. "Do Managers of U.S. Defined Benefit Pension Plan Sponsors Use Regulatory Freedom Strategically?," Journal of Accounting Research, Wiley Blackwell, vol. 55(5), pages 1213-1255, December.
    11. Paul Klumpes & Mark Whittington & Yong Li, 2009. "Determinants of the Pension Curtailment Decisions of UK Firms," Journal of Business Finance & Accounting, Wiley Blackwell, vol. 36(7‐8), pages 899-924, September.
    12. Rauh, Joshua D. & Stefanescu, Irina & Zeldes, Stephen P., 2020. "Cost saving and the freezing of corporate pension plans," Journal of Public Economics, Elsevier, vol. 188(C).
    13. Móricz, Dániel, 2004. "Vállalati szolgáltatási nyugdíjprogramok optimális befektetési politikája és fedezettségi szintje az Egyesült Államokban [Optimal investment and funding policy of US defined-benefit pension plans]," Közgazdasági Szemle (Economic Review - monthly of the Hungarian Academy of Sciences), Közgazdasági Szemle Alapítvány (Economic Review Foundation), vol. 0(12), pages 1113-1131.
    14. Love, David & Smith, Paul A. & Wilcox, David, 2007. "Why Do Firms Offer Risky Defined–Benefit Pension Plans?," National Tax Journal, National Tax Association;National Tax Journal, vol. 60(3), pages 507-519, September.
    15. Joshua Rauh, 2007. "Risk Shifting versus Risk Management: Investment Policy in Corporate Pension Plans," NBER Working Papers 13240, National Bureau of Economic Research, Inc.
    16. Luca Larcher & Francis Breedon, 2020. "Discounting and the market valuation of defined benefit pensions," Working Papers 932, Queen Mary University of London, School of Economics and Finance.
    17. Joshua D. Rauh & Irina Stefanescu & Stephen P. Zeldes, 2020. "Cost Saving and the Freezing of Corporate Pension Plans," NBER Working Papers 27251, National Bureau of Economic Research, Inc.
    18. Gaobo Pang & Mark Warshawsky, 2013. "Comparing Costs and Risks of Retirement Plans for Sponsors," Risk Management and Insurance Review, American Risk and Insurance Association, vol. 16(2), pages 195-217, September.
    19. Zvi Bodie & Jay O. Light & Randall Morck, 1987. "Funding and Asset Allocation in Corporate Pension Plans: An Empirical Investigation," NBER Chapters, in: Issues in Pension Economics, pages 15-48, National Bureau of Economic Research, Inc.
    20. Jeremy I. Bulow & Myron S. Scholes & Peter Menell, 1983. "Economic Implications of ERISA," NBER Chapters, in: Financial Aspects of the United States Pension System, pages 37-56, National Bureau of Economic Research, Inc.

    Corrections

    All material on this site has been provided by the respective publishers and authors. You can help correct errors and omissions. When requesting a correction, please mention this item's handle: RePEc:eee:jfinec:v:101:y:2011:i:1:p:18-35. See general information about how to correct material in RePEc.

    If you have authored this item and are not yet registered with RePEc, we encourage you to do it here. This allows to link your profile to this item. It also allows you to accept potential citations to this item that we are uncertain about.

    If CitEc recognized a bibliographic reference but did not link an item in RePEc to it, you can help with this form .

    If you know of missing items citing this one, you can help us creating those links by adding the relevant references in the same way as above, for each refering item. If you are a registered author of this item, you may also want to check the "citations" tab in your RePEc Author Service profile, as there may be some citations waiting for confirmation.

    For technical questions regarding this item, or to correct its authors, title, abstract, bibliographic or download information, contact: Catherine Liu (email available below). General contact details of provider: http://www.elsevier.com/locate/inca/505576 .

    Please note that corrections may take a couple of weeks to filter through the various RePEc services.

    IDEAS is a RePEc service. RePEc uses bibliographic data supplied by the respective publishers.