CHAPTER 17: Discussion Questions and Problems
1. Differentiate the following terms/concepts:
a. DCs and DBs
A defined benefit (DB) pension is a pension in which the employer normally promises,
b. Auto-enrollment and SDIP programs
c. Exponential and hyperbolic discount functions
Exponential discount functions are functions often used in classical economics when
d. Deferral rate and income replacement rate
2. Sue is an exponential discounter. Her discount function which illustrates her
preference for money at various points in time is characterized as follows:
∂(t)=1/(1.07)t for t=0,1,2,…
2 | P a g e
Bob on the other hand is a hyperbolic discounter. His discount function is:
∂(t) = 1 for t=0
= .8/(1.03)t-1 for t=1,2,…
a. What would Sue/Bob rather have: $1 today or $1.10 next year? Explain.
b. What would Sue/Bob rather have: $1 next year or $1.10 the year after
that? Explain.
Sue: 1 * 1/1.07 < 1.10 * (1/(1.07)2) (first term is personal present value of a $1 received
3. If employee-investors are unsophisticated and unlikely to be materially
influenced by educational efforts, the best way to improve the welfare of
employee-investors is pension design. Discuss.
4. Would you rather have had a DB or a DC in the summer of 2008? Explain.
5. Using the saving example in the text (Wendy Chan), calculate the income
replacement ratio based on a deferral rate of 10% and an investment return on
retirement savings of 3.5%. (All other assumed values remain the same.)