Economic Development, Aging and Retirement Decisions ∗ Jose Ignacio Conde Ruiz, FEDEA Vincenzo Galasso, IGIER Universit` a Bocconi and CEPR Paola Profeta, Universit` a di Pavia, CORE and Universit`a Bocconi May 2004. Very preliminary and incomplete Abstract We provide a long term perspective on the individual retirement be- havior, along the observed path of economic (and demographic) develop- ment of most countries. First, we address the relation between the use of the early retirement provisions and the pension expenditure in a cross- country sample. We find that countries with older population and more early retirement spend more in pensions. Second, we provide a simple theoretical framework in which the incentives to retire early - as identified by Blondal and Scarpetta (1998) and Gruber and Wise (1999 and 2003) - are examined in conjunction with some long term determinants of the retirement decision. We suggest that, while at the margin non-actuarially fair pension system may reduce the opportunity cost of leisure, and hence induce rational agents to retire early, life-time income effects may mag- nify or compensate these incentives, depending on the path of economic development. We consider a young, low-income country and three stages of development. The country first turns middle-income, then becomes high-income with an aging population, and finally turns into an old high- income country. We find that in initial stage, the effect on the retirement behavior is ambiguous, while in the second stage the retirement age de- creases - due to both income and substitution effects. Italian data are in line with our assumptions and predictions. Theoretical implications on the third stage of development suggest that future generations of re- tirees will be relatively “poorer” than their parents. Ceteris paribus, this negative life-time income effect will induce them to postpone retirement. We finally explore this prediction over the future of early retirement in a Markovian politico-economic model. Keywords: pensions, lifetime income effect, tax burden, Markovian politico-economic equilibrium JEL Classification: H53, H55, D72 ∗ Jose Ignacio Conde Ruiz, conde-ruiz@fedea.es, Vincenzo Galasso vin- cenzo.galasso@unibocconi.it, Paola Profeta paola.profeta@unibocconi.it. We thank J.F.Jimeno for many useful comments and suggestions. Financial support from Funda- cion Ramon Areces and Fundacion BBVA is gratefully acknowledged. 1