(UM09-04) - What Replacement Rates Should Households Use?
John Karl Scholz and Ananth Seshadri
We examine the implications of economic theory for replacement rates. Common financial planning advice calls for households to ensure that retirement income exceeds 70 percent of average preretirement income. We will use an augmented life-cycle model of household behavior to examine the distribution of optimal replacement rates for American households born prior to 1953. We will relate optimal replacement rates to observable household characteristics to develop a set of theory-based, but readily understandable financial guidelines. This work should have useful implications for efforts to assess the adequacy of retirement wealth preparation and efforts to promote financial literacy and wellbeing.