Wh What Are We We Do Doing Here? We Were re trying to fi - - PDF document

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Wh What Are We We Do Doing Here? We Were re trying to fi - - PDF document

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Introduce ESPlanner Aa Aaron Stevens EC1 EC171 71, 18 18 October 2011 1 Wh What Are We We Do Doing Here? We Were re trying to fi figure out how much to c to consu onsume (C (C) a ) and nd sa save ve (S (S) e ) each year,

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SLIDE 1

1

Aa Aaron Stevens EC1 EC171 71, 18 18 October 2011

Introduce ESPlanner

Wh What Are We We Do Doing Here?

We We’re re trying to fi figure out how much to c to consu

  • nsume (C

(C) a ) and nd sa save ve (S (S) e ) each year, year, gi given en our ur labo abor r inco come e (W). The The ec economic life-cycle model t tells ho how w to smooth h our consumption, bu but it get gets s com compl plicat cated ed on

  • n accoun

account of:

  • f:
  • time value of money
  • taxes and benefits
  • borrowing constraints
  • computational complexity
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SLIDE 2

Wh What is ES ESPlanner?

ESPl ESPlan anner er is is a software pr program whi which h do does consumption smoothi hing, gi given ven your: your:

  • ag

age, household composition

  • la

labor supply

  • as

assets and liabilities

  • ta

taxes

  • bo

borrowing constraints Free Free vers ersion online e at at: www. www.esplan anner.com/bas /basic

St Steve St Stifler, ag age 22

Steve Steve jus ust t got got a a job

  • b in

n mar arketi keting, ng, ear earni ning ng $44, $44,000 000 per per year year; he e expec expects ts to to ear earn $75, $75,000 000 (in n tod today ay’s s dollars) by the time he re retire res a s at a age 6 65.

  • St

Steve’s s broke -- no assets.

  • $8

$8,000 in credit card debt Wh What sustainable standard of living can Steve Steve af affor

  • rd?

d? How

  • w muc

uch h shoul hould d Steve Steve save ave each each year year to to achi achieve eve that? that?

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SLIDE 3

Pl Planni nning ng Method hod ES ESPlanner nner Input Inputs

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SLIDE 4

ES ESPlanner nner Input Inputs

Exam Exampl ple: e: $8000 $8000 of credi credit card card debt debt. Ca Calculate the he amo mortizi zing payme ment t to pay pay it off

  • ff in

n 3 3 years: years: Inc Includ lude th this a s amount

  • unt

in in ES ESPlanner un under “Sp Special Expenses”:

ES ESPlanner nner Re Reports

  • 1. Housing expenses, special expenses, contributions to retirement accounts and your reserve fund, life insurance

premiums, and Medicare Part B premiums.

  • 2. All other spending.
  • 3. Saving above and beyond contributions to retirement accounts and your reserve fund but independent of

discretionary spending; amounts in red and in parentheses reference dissaving, which means using money from your regular assets, not your retirement accounts.

  • 4. Discretionary spending per person adjusted for "two can live more cheaply" and the cost of children.
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SLIDE 5

Annua Annual Sugge Suggestions

  • ns

Annua Annual Sp Spend nding ng

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SLIDE 6

Annua Annual Ne Net Wor

  • rth

h Repor

  • rt

Note: e: paying off ff cred edit cards is a fo form m of f saving!

Ne Net worth h peaks at retirement, spend down until age 100. 00.

St Stifler’s s Mo Mom, age 55

Stifl fler er’s s Mom m is 55. . She’s s a tea eacher er ea earning $5 $51,000 per er yea

  • ear. She

e will work to age e 66, and does es not ex expec ect any salary increa ease e bey eyond in infl flat atio ion.

  • $300,000 of

f ret etiremen ement asset ets.

  • Owns a house

e worth $2 $220,000; she e owes es $1 $104,000 on the e mo mortgage e with 11 yea ears rema emaining, and mo monthly paymen ments of f $1 $1078; an annual proper erty taxes es are $2800, and insurance e is $8 $800.

Wh What sustainable standard of living can Sti Stifl fler er’s s mo mom afford? How much should she sa save e each y ch year t r to a achi chieve t tha hat?

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SLIDE 7

ES ESPlanner nner Input Inputs ES ESPlanner nner Input Inputs

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SLIDE 8

ES ESPlanner nner Re Reports

  • 1. Housing expenses, special expenses, contributions to retirement accounts and your reserve fund, life insurance

premiums, and Medicare Part B premiums.

  • 2. All other spending.
  • 3. Saving above and beyond contributions to retirement accounts and your reserve fund but independent of

discretionary spending; amounts in red and in parentheses reference dissaving, which means using money from your regular assets, not your retirement accounts.

  • 4. Discretionary spending per person adjusted for "two can live more cheaply" and the cost of children.

Annua Annual Sugge Suggestions

  • ns
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SLIDE 9

Annua Annual Sp Spend nding ng Annua Annual Ne Net Wor

  • rth

h Repor

  • rt
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SLIDE 10

Ma Married Wi With Ch Children

Cons Consider der Chuck Chuck and and Lar Larry, y, a a mar arried ed coupl couple wi with 2 income

  • mes. They plan to adopt 3

3 kids.

Ea Earni rnings ngs

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SLIDE 11

Home Homeow

  • wne

nershi hip

Cons Consider der Chuck Chuck and and Lar Larry

  • w
  • wn

n a a val valuabl uable e hom home e with th

  • nl
  • nly

y a a modes

  • dest

t mor

  • rtgage.

tgage.

Recommenda Recommendations

  • ns
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SLIDE 12

Annua Annual Sugge Suggestions

  • ns

Di Discretionary Spending is pe per household. Li Livi ving ng Standar Standard d is per per adul adult. t. 2 2 can an live ve as as cheapl eaply y as as 1.6. 6. ki kids ds live ve as as cheapl heaply y as as about about 0. 0.4 4 adul adults ts.

Co Consider an Inheritance

Wh What happens if Chuck and Larry expect expect a a bi big g inher nheritance tance in n 20 20 year years?

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SLIDE 13

Li Living ng St Standa ndard d Per Per Adul Adult

Li Livi ving ng Standar Standard d is hi higher gher for

  • r al

all year years… s saving is reduced.

Bo Borrowi wing Co Constraints…

The e “eviden ence”

  • f

f borrowing co const strain raints is is th that i t it i t is not not possible e to smo mooth consump mption.

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SLIDE 14

You

  • ur E

Eme mergency F y Fund

YO YOU NEED TO TO SELF LF-INSURE AGAINST T UNEMPLO LOYM YMENT! T!

Set up an emergency or reserve fund of 6-12 months of non-discretionary expenses. You cannot afford to lose this money!

  • Your emergency fund must be risk-free: put it in

a Certificate of Deposit, or better yet iBonds.

  • DO NOT use this money to buy a car, vacation,

house, engagement ring, etc!

Start building your emergency fund on day 1 of your first job!

ES ESPLa Lanner nner “Re Reserve Fund”

Suppose we tell ESPlanner that we need $18,000 in reserve fund by 2014:

The recommendations suggest spending $23,937, saving $5,786 in regular assets, as well as $3600 in reserve fund in first year.

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SLIDE 15

How How to

  • Raise Your
  • ur Li

Lifetime me St Standa ndard d of

  • f Li

Living? ng?

Th The e ul ulti timate ate ques questi tion

  • n of
  • f pe

personal life- cycl cycle econ e econom

  • mics i

cs is ho how w to raise your lif lifetim ime standard of liv livin ing. . Some ideas?

  • invest in more Human Capital
  • get married
  • change location/housing
  • work longer
  • get a better deal from Uncle Sam

Announc Announceme ment nts and nd To

  • Do

Do

Rea eadings:

  • STTE:

E: ch ch 1, 1, 2, 3, 5, 6, 8 (t (today) Homew mework 5: Crea eate e a fi financial plan using ES ESPl Planner er (due e Tues esday 10/25) QUIZ 3 will be e on Tues esday 10/25