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The Effect of Labor Market Trends on the Incentives and Incidence for Claiming Social Security Benefits Early

Although a large literature analyzes the determinants of retirement decisions, relatively few papers explicitly analyzed the decision of when to claim social security benefits (Coile, Diamond, Gruber, Jousten 2002). Moreover, typical analyses of the decision to claim tend to focus on financial incentive deriving from the lifetime value of benefits. The current literature on claiming places little focus on incentives to claim benefits coming from the labor market.

Incentives to claim originating from the labor market could potentially be strong. On the one hand, a long literature on other labor market programs documents that high benefits relative to current earnings (i.e., high replacement rates) tend to increase program participation and lower employment. On the other hand, a large literature has documented profound recent changes in earnings inequality potentially raising replacement rates of Old-Age and Survivors Insurance (OASI) Benefits. At the same time, there has been a well-documented decline in the typical age of claiming. Yet, little attention has been paid to the effect of these changes in earnings inequality on the incidence of early claiming.

Because changes in earnings inequality interact with the structure of OASI benefits, they can lead to multiple short and long run effects on the replacement rate. Initially, a decline in labor market opportunities for lower skilled workers lead to an immediate rise in the effective replacement rate, since benefits are based on a long-run average of earnings unlikely to be significantly affected by short-term fluctuations in earnings.

Over time, as successive cohorts of lower skilled workers are exposed to a regime of reduced labor market opportunities for longer periods of time, average lifetime earnings and benefits start to decline, and the initial rise in the replacement rate declines. Neither effect has been evaluated in the current literature.

The Effect of Labor Market Trends on the Incentives and Incidence for Claiming Social Security Benefits Early