Asset Pricing and Risk Sharing Implications of Alternative Pension Plan Systems

We show that incorporating defined benefit pension funds in an asset pricing model with incomplete markets improves its ability to jointly match the historical equity premium and riskless rate, and has important implications for risk sharing. We emphasize the importance of the pension fund's size and asset demands in determining equilibrium asset prices and discuss a new risk channel arising from fluctuations in the fund's endowment. We use our calibrated model to study the implications of a shift from an economy with defined benefit pension schemes to one with defined contribution plans. We find that the new steady-state is characterized by a higher riskless rate and a lower equity premium. Consumption volatility increases for retirees but decreases for workers