Labor supply over the life cycle: The long-term forecasting problem

It would be very useful to be able to make long-term forecasts of age variations in labor supply. The life cycle theory of labor supply has been employed to analyze such variations. This theory holds that the individual allocates his time between work and leisure over his lifetime so as to maximize his utility. The theory’s use in long-term forecasting is limited, though, because of the uncertainty that the individual faces about wages, prices and other economic variables and about future government policies that will affect his labor supply decisions. Data for the past sixty years are consistent with an alternative theory: that the labor supply of younger and older groups is influenced by subsidies from prime-aged groups. Forecasts based on this theory can in effect predict the level of intergenerational subsidies as well as individual reactions to them and so may provide a more practical tool for long-term forecasting.