Wealth shocks on seniors

July 04, 2024

By Anne MacLaurin

UVic economist, Marco Cozzi, researched the impact of “wealth shocks” on seniors’ life satisfaction. He found that if the wealth shock was 60% or greater of a senior's household wealth, the impact was quite detrimental. Alternatively, if the wealth shock was less severe, the senior's life satisfaction was not negatively affected.

The key to mitigating life's uncertainties is to diversify your wealth assets. If one shock occurs in one area, such as a stock investment, it does not adversely affect your entire portfolio.

“A guiding principle should be to ensure that the likelihood of catastrophic wealth losses is kept to a minimum,” says Cozzi, “diversification of financial investments is a sensible and widely recommended strategy.”

The research showed that a large wealth shock had a long-term impact on a person's life satisfaction, it took several years after the shock occurred to recover. In the elderly, this is far from ideal, so being careful of investments and becoming more financially literate is important.

“People nearing retirement age may want to carefully consider their tolerance to risky investments, and their ability to cope with negative returns on their wealth,” adds Cozzi.

“My first suggestion is related to "financial literacy,” I encourage everyone (retirees, working-age individuals, and students), to become familiar with key financial concepts,” says Cozzi.

“My second suggestion is to start saving relatively early; in a world with high interest rates, large credit card and student debt can force people to devote a substantial share of their income to repay those debts,” adds Cozzi.

Cozzi says this could ultimately prevent having enough resources in retirement to finance the desired lifestyle, and to face the costs of deteriorating health conditions, among other economic challenges faced by the elderly.

The role of wealth shocks has not been addressed often in the literature, because it is methodologically challenging. In particular, from the perspective of a researcher, common data limitations make it difficult to separate the effect of planned decreases in wealth (due to, say, large financial gifts to children and grandchildren) from the effect of unplanned decreases in wealth (due to, say, a stock market crash).

A novel aspect of Cozzi’s research is the empirical strategy he used to estimate the importance of wealth shocks. In his dataset, he has information on the same individuals over more than twenty years. However, he focused on the wealth changes that materialized in the aftermath of the 2008-09 recession, analyzing the subsequent responses in measures of life satisfaction.

Since the so-called great recession (2008-09) caused an unexpected and large drop in asset prices, this allowed Cozzi to observe directly the wealth shocks suffered by the households in his sample. He argues that planned wealth decreases accounted for a small portion of the reductions in household wealth reported in the survey, which mitigates the effects of well-known biases in estimation.

Resources:

1. Cozzi. "Do Wealth Shocks Matter for the Life Satisfaction of the Elderly? Evidence from the Health and Retirement Study," Economics Bulletin, Vol. 44 (1), 2024, p. 88-98 (with Qiushan Li).