Social Security Investment in Equities I: Linear Case

Social Security trust fund portfolio diversification to include some equities reduces the equity premium by raising the safe real interest rate. This requires changes in taxes. Under the hypothesis of constant marginal returns to risky investments, trust fund diversification lowers the price of land, increases aggregate investment, and raises the sum of household utilities, suitably weighted. It makes workers who do not own equities on their own better off, though it may hurt some others since changed taxes and asset values redistribute wealth across contemporaneous households and across generations. In our companion paper we reconsider the effects of diversification when there are decreasing marginal returns to safe and risky investment. Our analysis uses a two-period overlapping generations general equilibrium model with two types of agents, savers and workers who do not save. The latter represent approximately half of all workers who hold no equities whatsoever.