Precautionary Social Planning

Abstract

It is a truism of neoclassical economics that a sufficiently high savings rate will be bad if it is dynamically inefficient. Here we consider a Solow model in which households follow a savings rate dictated by a social planner. Ideally, the social planner would instruct households to save at the Golden Rule savings rate that maximizes consumption per capita, but this advice needs to be adjusted when the social planner has imperfect control over how much households actually save. Analogous to what happens with precautionary saving at the household level, in this case, the social planner will maximize social welfare by targeting a savings rate higher than the Golden Rule. Precautionary social planning then yields a dynamically inefficient allocation, albeit with greater stability of consumption, which is often a stated priority of social planners.