Karen A. Kopecky and Tatyana Koreshkova
Working Paper 2010-19a
December 2010 (Revised December 2013)

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We consider a life-cycle model with idiosyncratic risk in earnings, out-of-pocket medical and nursing home expenses, and survival. Partial insurance is available through welfare, Medicaid, and social security. Calibrating the model to the United States, we show that (1) savings for old-age, out-of-pocket expenses account for 13.5 percent of aggregate wealth, half of which is due to nursing home expenses; (2) cross-sectional out-of-pocket nursing home risk accounts for 3 percent of aggregate wealth and substantially slows down wealth decumulation at older ages; (3) the impact of medical and nursing home expenses on private savings varies significantly across the lifetime earnings distribution; and (4) all newborns would benefit if social insurance for nursing home stays was made more generous.

JEL classification: E1, E2, H3, I1, I3

Key words: out-of-pocket medical expenses, precautionary savings, nursing home expenses, welfare costs

This paper was previously titled "The Impact of Medical and Nursing Home Expenses and Social Insurance Policies On Savings and Welfare." The authors thank Árpád Ábrahám, R. Anton Braun, Rui Castro, Eric French, Joao Gomes, Paul Gomme, Jonathan Heathcote, Narayana Kocherlakota, Leonardo Martinez, Edward Prescott, José Victor Ríos-Rull, Juan Sanchez, John Karl Scholz, Ananth Seshadri, Kjetil Storesletten, Richard Suen, and Motohiro Yogo for helpful comments and Kai Xu for excellent research assistance. They also thank seminar participants at the Minneapolis Federal Reserve Bank, Atlanta Federal Reserve Bank, the Université de Montréal, the University of Wisconsin-Madison and the Wharton School, the University of California at San Diego, the University of North Carolina at Chapel Hill, the University of Western Ontario, McGill University, and conference participants at the 2008 Canadian Macro Study Group, the 2007 and 2008 Wegmans Conferences at the University of Rochester, the 2008 Conference on Income Distribution and Family at the University of Kiel, the 2009 meeting of the Society for Economic Dynamics, and the 2009 Conference on Health and the Macroeconomy at the Laboratory for Aggregate Economics and Finance, UCSB. FQRSC grant F00676 is gratefully acknowledged. The views expressed here are the authors' and not necessarily those of the Federal Reserve Bank of Atlanta or the Federal Reserve System. Any remaining errors are the authors' responsibility.
Please address questions regarding content to Karen A. Kopecky (corresponding author), Research Department, Federal Reserve Bank of Atlanta, 1000 Peachtree Street NE, Atlanta, GA 30309-4470, 404-498-8974, karen.kopecky@atl.frb.org, or Tatyana Koreshkova, CIREQ and Department of Economics, Concordia University, 1455 de Maisonneuve Boulevard West, Montreal, Quebec, H3G 1M8, Canada, tkoreshk@alcor.concordia.ca.
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