In many families, there is a secret contract between the generations: He who inherits must also take care of him! This has amazing consequences.
In theory at least, economists are not good at handling children easily because they don’t know how to handle them in their models. It is natural for parents and economists to love their children and do anything for them. But in the economic model, this is not enough. When it comes to spending on a child, the model theorist must decide whether children are a ‘consumer good’ or an ‘investment good’. Can the parents bear the cost of the child because it is fun to watch the little one grow up? Or is the decision to have a child a rational arithmetic to ensure that there is someone to take care of you when you grow up?
Asking these questions in this way is nothing but a bad economic joke that the new students whisper to themselves. These questions are of great importance to married couples and to society. This is immediately evident in an analysis of why Western luxury countries run out of children. “People have children anyway,” former Federal Chancellor Konrad Adenauer said when asked about the consequences of activating state pensions for reproductive behavior at the end of the 1950s.
Adenauer was wrong
But Adenauer was wrong. When old-age provisions are taken over by the state through pension insurance, children are no longer in demand as “investment goods”. This explains at least in part the decline in birth rates in developed welfare states. The fact that politicians took more and more tax money into their hands in order to encourage people to have children can be described, in the sober language of economists, as a spiral of state intervention.
The Japanese economist Charles Horioka, with three co-authors, approached the motives for having a child from the afterlife, as probably appropriate in an elderly society like Japan. Horioka examines how parents’ view of their offspring affects inheritance and work. In the world of the simplified model, parents categorize themselves into two categories. Some love their child and want to leave him an inheritance as large as possible. Like Horioka, this can be called a genetic drive to be altruistic. Others, however, see inheritance as part of a binding deal: whoever inherits must take care of it too! They combine inheritance in the intergenerational family contract with the expectation that the offspring will take care of their parents in their later years.
inherit to work less
This has an impact on the parents’ working lives years before the inheritance. Influential parents work longer than others and retire later. Measured by the number of hours a week, other parents work more intensively, but leave work early. How can this be explained? Influential parents want their children to inherit as much as possible. In return, they are willing to retire later. By contrast, parents who expect their children to provide care and support in old age take two factors into account when deciding whether to retire. On the one hand, they should leave to their children a high enough inheritance as an achievement. On the other hand, they yearn to be cared for by their children for a sufficient number of years in return. This incentive structure reasonably causes these fathers to work longer hours per week but leave the workforce earlier than altruistic spouses.
Such theorizing may strike many as an anomaly in economic science. But the attractive thing about Horioka & Co.’s study is that the authors support their considerations by using the example of the Japanese community. A regular survey conducted by a research group at Osaka University in 2012 also asked about inheritance motives. Analyzing this survey, the researchers found exactly the behavior predicted by the theory. Influential parents later retire. Parents who depend on their children to support their old age work more hours per week but retire earlier. This data analysis is not evidence that theoretical model considerations accurately describe reality. However, it is a strong indication that parents’ motives for inheritance should not be ignored when considering the job market.
Less inheritance tax?
This could have direct consequences for economic policy. Economists usually view inheritance tax, like any direct or indirect tax on income, as a disincentive to overtime. The higher the tax, the less effort you have to put in to generate more. In Japan’s aging society, which is facing a growing labor shortage, this is a strong motivation to reduce the inheritance tax – and other taxes as well. A lower inheritance tax provides the opportunity to leave more for children for every hour worked. This encourages parents to work overtime and retire later.
However, Horioka and colleagues caution that their analysis cannot be taken for granted with certainty. When parents view inheritance as a consideration for providing for offspring, the exact opposite can happen. A reduction in the inheritance tax after that can result in the parents retiring even earlier. Thus, the net effect of a lower inheritance tax could go against the government’s intent.
At this point, economists leave the reader in awe because they do not make specific suggestions about how the government should respond to this uncertainty. Fortunately, at least in Japan, the problem raised by Horioka and colleagues does not appear to be widespread. A look into the depths of data analysis reveals that in the survey, 30 percent of parents attributed an altruistic motive to themselves. However, only 3 percent said they wanted childcare services in exchange for their inheritance. This number may be underestimated because parents are reluctant to reveal selfish expectations to their children. However, the very low figure of 3 percent indicates that the Japanese government should not hesitate before cutting the inheritance tax.
Charles Yuji Horioka, Amin Jahramanov, Aziz Hayat, and Shweli Tang (2020): Impact of demand motives on retirement behavior in Japan: a theoretical and empirical analysis. National Bureau of Economic Research (NBER) Working Paper No. 26621.
This “Sunday Economist” appeared in the Frankfurter Allgemeine Sunday newspaper on February 2.