Academics and Annuities

December 17th, 2009

Annuities have been around for several centuries. They satisfy a demand for security. Yet they inspire controversy and emotion.  Dispassion and detachment govern life in the academy, at least in principle. This would seem to make academia the logical place in which to seek an objective view. How do academics regard annuities?

The Good…

Academics are trained to think logically and act systematically. They are obsessed with detail and with uncovering the underlying order of things. They are not hamstrung by commercial ties or obligations. They are teachers, accustomed to dispensing learning. These characteristics are ideal for addressing a subject as complicated as annuities.

Annuities have a historic place in the history of ideas. Great mathematicians have made use of the annuity principle to present their ideas. Teachers use annuities to present concepts such as the time value of money, discounted present value and future value. Annuity streams figure prominently in asset theory and insurance. Academic theoreticians appreciate the elegance and purity of core annuity concepts. Thus, annuities are a familiar tool to academics.

The good news is that academics see and savor the core purpose of annuities – to provide guaranteed lifetime income. The increase in life expectancy during the 20th century – due particularly to the role of medicine in counteracting disease – has brought annuities to the fore as a tool of retirement finance. Academic policymakers appreciate the utility of a financial asset that can cut the Gordian knot of “social insurance.” Politicians have made bigger and bigger promises to more and more people despite the dwindling pool of contributors to promise-fulfillment. The only solution to this dilemma is to improve national productivity through the private sector. That is where annuities come in.

Psychology also accounts for the academic popularity of annuities. After all, the academic version of the American dream is a sinecure with lifetime tenure. What better financial asset for people who worship security than a guaranteed source of lifetime income? Those to whom risk and challenge are anathema need the assurance that annuities provide. Academics recognize that the costs of annuities are driven by their insurance features. Nobody appreciates insurance more than academics, the ultimate strivers after security.

…The Bad…

A casual reader of academic literature on annuities might suppose that its authors dwell on Mount Olympus. Most academics see themselves as philosopher kings – observing society from on high and delivering summary judgments on our welfare in the manner of royal decrees. Nowhere is this more evident than in the academic attitude toward annuities and retirement saving.

The public is a bunch of improvident wastrels who would be better off if we listened to the academics. The shortsighted hoi polloi cannot be trusted to save for the future. Even when we do save, we underestimate our life expectancy. Even when we do grasp the idea of life expectancy, we focus on the mean (average life expectancy) while ignoring the variance (i.e., the possibility that people may outlive their life expectancy by a decade or two). Even when people accidentally save enough to retire on, we cannot be trusted to spend what we save – we’re bound to consume our savings at too high a rate or blow our wad on some silly lifetime dream like a vacation.

Their perch on Mount Olympus gives academics a better view of us than we ourselves possess. It enables them to run our lives without knowing our specific circumstances. Rather than being a way to improve consumer choice, annuities are a wonderful tool for social engineering.

…and the Ugly

The contempt in which academics hold the public conditions their policy recommendations. We must be presented with the narrowest possible range of choices or, better still, simply be told what to do. The academics love the European approach to the “privatization” of social insurance, which typically requires those who opt out of the government system to purchase a life annuity. In contrast, Chile’s system gives the people altogether too many choices – why, it is even possible to arrange a lump-sum withdrawal from a private account!

Forcing the public to purchase annuities is justified as a way to improve the actuarial footing of the retirement systems. The right to choose from among alternatives allows the public might make the wrong choice. (No danger of the academics doing that!) The academics don’t view privatization as analogous to a restaurant, where consumers receive a wider menu of choices. Instead, they view it as akin to veterinary medicine – with themselves as the vets.

The academic attitude is not a personality quirk so much as a response to institutional incentives. Nobel-laureate economist James Buchanan has called academic life a kind of dole for intellectuals. Tenure affords them lifetime job security. Government not only pays their salaries but also funds their research, which is the key to getting tenure. Government gives academics the ability to pass judgment on their own productivity in the tenure process. Academics view themselves as a policy arm of government and structure their recommendations for government convenience. Since governments have neither the power nor the inclination to accommodate individual choice, academics see no reason to do it, either.

Sorting Wheat from Chaff

Which is worse, to be given only wrong choices or to have the power to choose withdrawn? Is it better to be forced to buy an annuity whether you want one or not than it is to be denied the benefits of annuities by ignorance or misinformation? In the U.S., the Social Security system dominates what would otherwise be a healthy market for annuities, cherry-picking the least healthy annuitants and leaving the healthiest for private insurance. This keeps the cost of annuities high; life insurance companies must limit the payout amount in order to afford the longer payout periods.

In Europe, Chile and certain foreign countries, annuities have emerged from the shadow of government-mandated social insurance. This has made annuities available to vastly more people. Alas, mandatory annuitization vitiates much of the benefits. The motto of academics seems to be that anything worth doing is worth requiring.

There is grave doubt whether the superior analytical quality of academic analysis is worth the costs imposed by their attitude toward the public. Pending the abolition of tenure, we will have to sort the wheat of academic research from the chaff of self-serving policy recommendations.

Category: Annuities, Fixed Annuities, Retirement Planning, Variable Annuities | Tags: , , ,

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