What Can the Life Cycle Model Tell Us About 401(k) Contributions and Participation?

This paper solves and simulates a stochastic life cycle model of an economy with 401(k) plans. We use the model to establish a benchmark for patterns of contributions and participation and show how these patterns depends on such features as employer matching, vesting policies, and the availability of plan loans. Consistent with empirical studies, the model predicts relatively low participation rates among younger workers and shows that these rates tend to rise with more generous matching, lower vesting periods, and the availability of loans. Comments welcome at [email protected]. I am grateful for the guidance and support of George Hall and William Brainard. I also thank Hugo Benitez-Silva, Eric French, Michael Palumbo, John Rust, Paul Smith, the two referees, both of whom provided excellent comments, and seminar participants at the 2003 Conference on Improving Social Insurance Programs, 2002 SED conference, the Board of Governors of the Federal Reserve System, the Federal Reserve Banks of Boston and Richmond, Pomona College, Princeton University Inter-University Student Conference, USC Marshall School of Business, Williams College, and Yale University. The views expressed in this paper are solely those of the author and do not reflect those of the Federal Reserve Board. JEL classification: D91; E21; E62.