Explaining the Wealth Holdings of Different Cohorts: Productivity Growth and Social Security

It is well-known that individuals born in different periods of time (cohorts
or generations) exhibit different wealth accumulation paths. While
previous studies have used cohort dummies to proxy for this fact, research
in this area suffers from a serious identification problem, i.e., how to
disentangle age, time, and cohort effects from a simple cross-section or a
time series of cross-sections. Furthermore, the use of cohort dummies
leaves unexplained the reasons for the differences across cohorts.
In this paper, we go beyond the simple use of cohort dummies to
capture the differences in wealth holdings across generations. We use
basic economic theory to propose two indicators of the economic
conditions under which households accumulate wealth. The first one
represents productivity differences across cohorts: the aggregate level of
gross national product per capita around the time the head of the
household entered the labor market. The second measure summarizes the
changes in Social Security during the head of household’s working life.
Using panel data from the Dutch Socio-Economic Panel, we show that
productivity growth can explain all the cohort effects present in income
data, while productivity growth and the generosity of Social Security can
explain all the cohort effects present in household net worth. Thus, cohort
effects can be traced back to past economic conditions and we do not need
to resort to differences in preferences or other reasons to explain the
differences in wealth holdings across generations.