Umeå Economic Studies,
Umeå University, Department of Economics

Abstract: This paper studies the life-cycle effects of favorable marginal tax treatment of older workers on their optimal life-cycle labor supply, retirement timing, and savings. I develop a structural model in continuous time where the life cycle of a representative agent is divided into three distinct phases: pre-treatment, post-treatment, and retirement. Solutions for consumption/savings, labor supply/leisure, and retirement timing are then obtained by solving the model as a salvage value problem. I then calibrate the model to Swedish earnings data and find that the increased extensive margin labor supply is partially offset by a reduction in hours worked during the pre-treatment period. The total effect is however an increase in life-cycle labor supply and consumption.

Keywords: Retirement age; life cycle; tax heterogeneity; savings; consumption; leisure

JEL-codes: D15; J22; J26

45 pages, First version: February 4, 2021. Revised: March 1, 2021.

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