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The US Social Security program was created in part as an explicit response to the Great Depression. We evaluate the performance of Social Security as a protective safety net against a rare episode of sudden and significant loss of private wealth such as the Great Depression. We construct a model in which a rare event causes a shock to wealth at an unknown time. How well does Social Security function as a safety net against such risk? The answer depends critically on whether households optimize in the face of this risk. If the household has full information on the distribution of rare event risk and solves a dynamic stochastic problem to hedge this risk, then Social Security is unnecessary along this dimension. Alternatively, if the household does not account for rare event risk in its financial planning, then Social Security can provide very large welfare gains as a safety net. [ABSTRACT FROM AUTHOR]

This paper quantifies the welfare gains from Social Security when individuals face uninsurable longevity risk. While past researchers have studied this basic question, we do so from a unique perspective. In contrast to traditional macroeconomic models that abstract from specific linkages between parents and children, in our model, children are born to specific parents whose longevity is uncertain. And because parental asset holdings evolve over the life of the parent, children face uninsurable bequest income risk in addition to their own longevity risk. We find that Social Security improves ex ante expected utility by 3.4% of lifetime consumption (for the second generation). Because our baseline analysis assumes full information and optimal hedging of longevity risk, we treat these welfare gains as a conservative estimate, and we show that the gains are significantly larger when individuals fail to hedge their longevity risk. [ABSTRACT FROM AUTHOR]

To help manage longevity risk, Social Security pays three types of benefits to retirees: retirement benefits as a life annuity, spousal benefits until the death of the primary earner, and survivor benefits after the death of primary earner. How effective is Social Security at insuring couples against the joint longevity risks that they face? We take a public finance approach to this important question by comparing a Laissez Faire economy to a variety of different public insurance structures including the First Best, the Second Best, and US Social Security. We find that the welfare gains to couples from participating in the US Social Security system are large, and the survivor benefit feature is the key to this result while the spousal benefit provides very little efficiency gains. In fact, the optimal mixture of spousal and survivor benefits (i.e., the Second Best) improves ex ante efficiency by providing a larger payment to widows and a smaller spousal benefit than the current US system. We obtain these results using a theoretical model of couples who have full information about gender‐specific longevity risks and solve a dynamic stochastic (regime‐switching) problem to optimally hedge these risks. [ABSTRACT FROM AUTHOR]