Redistribution and Optimal Retirement Financing∗

We study optimal redistribution in life-cycle economy with privately observed permanent permanent earning ability types and mortality types. The novel feature of our analysis is that earning ability and mortality are negatively correlated. We characterize pareto optima and show that efficient allocation must satisfy an inverse euler equation (despite ability types being permanent). Hence, all ability types face positive saving distortions at all ages as long as the correlation between ability and mortality is negative. We calibrate our model and show that the efficient inter-temporal distortions are large. We propose a simple tax policy that implements the efficient allocation. Implementing the optimal tax policy has increase (steady state) ex ante welfare by 4.56 percent (with the lowest earning decile gain as much at 35 percent). The contribution of differential mortality is about 0.5 percent in terms of consumption. ∗We would like to thank Alex Bick, Domenico Ferraro, Berthold Herrendorf, Bart Hobijn, Natalia Kovrijnykh, Todd Schoellman and Galina Verschagina as well as participants at the SED meetings in Toronto and the Midwest Macro Meetings in St Louis for valuable comments and discussions. Please visit http://www.public.asu.edu/∼rhossein for updates.