Life-cycle planning with CEV model and time-inconsistent preferences

In this paper, we investigate an optimization problem for a wage earner seeking to maximize expected utilities until retirement by choosing optimal consumption, investment, and life insurance purchase strategies. The constant elasticity of variance (CEV) model is adopted to describe the price process of the risky asset. Additionally, we assume that the wage earner has time-inconsistent preferences. This makes the wage earner discount her payoff by a non-constant discount rate. Applying the dynamic programming principle, we have derived the Hamilton-Jacobi-Bellman (HJB) equation corresponding to the optimization problem. Furthermore, we present semi-analytical expressions for optimal strategies and value functions in three cases: the benchmark model with time-consistent preferences, the naive and sophisticated wage earners with time-inconsistent preferences. Finally, illustrations of the optimal solutions and some economic insights are provided in the numerical examples.

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Publication Details

Journal
International Review of Economics & Finance
Published
2024-08-26
DOI
https://doi.org/10.1016/j.iref.2024.103517
Citations
2
Primary Topic
Economic theories and models
Type
article
Field-Weighted Citation Impact
2.26

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article

Life-cycle planning with CEV model and time-inconsistent preferences

Shujie Hu, Tak Kuen Siu, Ning Wang, Hao Wang et al.
2 citations
International Review of Economics & Finance
Economic theories and models
2.26
article

Life-cycle planning with CEV model and time-inconsistent preferences

Shujie Hu, Tak Kuen Siu, Ning Wang, Hao Wang, Rongming Wang
article en
2 citations

Abstract

In this paper, we investigate an optimization problem for a wage earner seeking to maximize expected utilities until retirement by choosing optimal consumption, investment, and life insurance purchase strategies. The constant elasticity of variance (CEV) model is adopted to describe the price process of the risky asset. Additionally, we assume that the wage earner has time-inconsistent preferences. This makes the wage earner discount her payoff by a non-constant discount rate. Applying the dynamic programming principle, we have derived the Hamilton-Jacobi-Bellman (HJB) equation corresponding to the optimization problem. Furthermore, we present semi-analytical expressions for optimal strategies and value functions in three cases: the benchmark model with time-consistent preferences, the naive and sophisticated wage earners with time-inconsistent preferences. Finally, illustrations of the optimal solutions and some economic insights are provided in the numerical examples.

International Review of Economics & FinanceVol. 96
Australian National University (AU), Anhui Normal University (CN), East China Normal University (CN), Macquarie University (AU)
National Natural Science Foundation of China
Zero hunger
Openalex Percentile: Top 8%
Economic theories and models
2.26
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Life-cycle planning with CEV model and time-inconsistent preferences — Shujie Hu, Tak Kuen Siu, et al. · International Review of Economics & Finance (2024) | TGRS Research Map | TGRS