Steady-State Welfare Effecs of Social Security in a Large Open Economy
David E. Wildasin Department of Economics Indiana University
The previous welfare-economics literature on intergenerational transfers through unfunded public pension schemes studies either "small open" economies, which can borrow or lend abroad without restriction at constant interest rates, or "closed" economies, in which domestic capital accumulation must be equal to domestic savings. Here we analyze the more realistic "intermediate" case of an economy which is both open and large enough to have an impact on world interest rates. It turns out that even those efficiency results that hold for both "polar" cases do not carry over to large open economies: If a country is a net lender, it can successfully redistribute income away from the non-residents by increasing the public pension program above the "golden-rule" level at which interest and growth rate coincide. Thus one must be careful in interpreting the previous results on the welfare effects of social security.