Intergenerational transmission of saving propensity: New insights from Canadian tax data and policy changes

By Philippe d’Astous, Pierre-Carl Michaud, and Gaëlle Simard-Duplain
Posted on September 08, 2021

The financial well-being of children all over the world is related to their parents. For instance, for a 10 percentage point increase in fathers’ earnings, children earn 2-3 percent more in the Scandinavian countries, and nearly 5 percent more in the United Kingdom and the United States.1 There is also a strong correlation between parents’ and children’s wealth, even in places with a relatively high level of income mobility.2 3 4 5 These relationships can arise through the genetic transmission of certain traits and attributes, as well as through the environment in which children grow up.6 Importantly, they reflect inequalities in the opportunities available to children born in different circumstances.7

Our objective is to investigate the intergenerational repercussions of changing parents’ incentives to save. In particular, we study the impact of parental participation in Canada’s Registered Retirement Savings Plan (RRSP) on savings in the next generation. The RRSP program was originally introduced in 1957, as a way to incentivize retirement savings. It allows individuals to contribute to their retirement savings and deduct contributions from taxable income. As such, it is similar to other tax-preferred savings accounts, such as Individual Retirement Accounts and 401(k) plans in the United States, and Personal Pensions in the United Kingdom.8 Hence, our work informs policy interventions designed to increase savings in large segments of the working-age population.


“Our project focuses on the intergenerational transmission of financial decision making with respect to a relatively democratic asset.”

We hope our findings will provide evidence on the potential to improve individuals’ financial well-being by intervening with their parents. Existing work shows correlation across generations in the propensity to save and to default,9 10 11 home ownership,12 portfolio choice,13 14 stock market participation,15 credit scores and credit constraints,16 and returns to financial wealth.17 A large portion of research on the transmission of wealth has sought to quantify the importance of genetics in these relationships. For instance, Cronqvist and Siegel (2015) estimate that 33% of variation in saving propensity among individuals is explained by genetic differences. Notably, they find that the expression of genetic traits pertaining to saving behaviour can be altered by family environment. This highlights the role that policy may play with respect to the intergenerational transmission of wealth.

Moreover, our project focuses on the intergenerational transmission of financial decision making with respect to a relatively democratic asset. Wealth is substantially more concentrated than income.18 In that context, home ownership and pensions are among the most democratic of assets.19 20 21 Most existing research has focused on the transmission of financial wealth,22 or on the transmission of a very broad measure of wealth, such as net worth.23 However, it may not be representative of the experience of middle-class investors. For instance, in the context of income transmission, there is abundant evidence that the incomes of children born in low- or high-income families are much more strongly correlated with those of their parents than the incomes of children born in middle-income families.24 25 26 Hence, our project can further the understanding of investment behaviour among people that have relatively limited access to wealth, and of how that access can be affected by policy and passed on to the following generation.

To answer our research question, we use two sources of differences in parents’ incentives to participate in the RRSP program. First, we take advantage of changes over time and across Canada’s provinces in the marginal tax rate faced by individuals. Because individuals can deduct RRSP contributions from their taxable income, incentives to contribute vary based on the marginal tax rate. Hence, we can compare the RRSP contributions of parents who face relatively low and relatively high marginal tax rates, and evaluate the extent to which differences in contributions are passed on to their children. The advantage of this approach is that it identifies the impact of program parameters on parents and their children, in a way that is not confounded by the genetic transmission of unobserved characteristics.

Second, we also exploit changes that have affected the RRSP program over the years, thus altering parents’ incentives to save for their retirement. Since its creation, the RRSP program has been substantially expanded, among other things by increasing the ceiling on contributions and by extending and finally abolishing the time limit for making contributions. To complement our analysis, we evaluate whether the effect of these changes have been transmitted from the parents’ to the children’s generation. Using two sources of variation in savings incentives allows us to study the impact of the program on different groups, and possibly to examine different mechanisms.

In brief, there is a strong relationship between the financial decision making of parents and children. On the one hand, this suggests that children born in poorer environments may be more limited in their potential to accumulate assets and ensure their financial well-being. On the other hand, it also offers policy makers and industry partners a great opportunity to leverage transmission mechanisms to improve the economic mobility of future generations. We hope our research will provide evidence to guide this last endeavour.

Footnotes

  1. Corak, M. (2013). Income inequality, equality of opportunity, and intergenerational mobility. Journal of Economic Perspectives, 27(3), 79-102.
  2. Charles, K. K., & Hurst, E. (2003). The correlation of wealth across generations. Journal of Political Economy, 111(6), 1155-1182.
  3. Clark, G., & Cummins, N. (2014). Intergenerational wealth mobility in England, 1858–2012: surnames and social mobility. The Economic Journal, 125(582), 61-85.
  4. Boserup, S. H., Kopczuk, W., & Kreiner, C. T. (2014). Stability and persistence of intergenerational wealth formation: Evidence from Danish wealth records of three generations (Working Paper). Retrieved from: http://web.econ.ku.dk/boserup/papers/WealthAcrossGen.pdf
  5. Adermon, A., Lindahl, M., & Waldenström, D. (2018). Intergenerational wealth mobility and the role of inheritance: Evidence from multiple generations. The Economic Journal, 128(612), F482-F513.
  6. Black, S.E., & Devereux., P.J. (2011). Recent developments in intergenerational mobility. In O. Ashenfelter & D. Autor (Eds.), Handbook of Labor Economics, Volume 4b. Elsevier.
  7. Chetty, R., Hendren, N., Kline, P., & Saez, E. (2014). Where is the land of opportunity? The geography of intergenerational mobility in the United States. The Quarterly Journal of Economics, 129(4), 1553-1623.
  8. Milligan, K. (2003). How do contribution limits affect contributions to tax-preferred savings accounts? Journal of Public Economics, 87(2), 253-281.
  9. Cronqvist, H., & Siegel, S. (2015). The origins of savings behavior. Journal of Political Economy, 123(1), 123-169.
  10. Ghent, A. C., & Kudlyak, M. (2015). Intergenerational linkages in household credit (Federal Reserve Bank of San Francisco Working Paper No. 2016-31). Retrieved from Federal Reserve Bank of San Francisco website: http://www.frbsf.org/economic-research/publications/working-papers/wp2016-31.pdf
  11. Kreiner, C. T., Leth‐Petersen, S., & Willerslev-Olsen, L. (2017). Financial trouble across generations: Evidence from the universe of personal loans in Denmark (EPRU Working Paper No. 2017-03). Retrieved from SSRN website: https://ssrn.com/abstract=2996988
  12. Cronqvist, H., Münkel, F., & Siegel, S. (2014). Genetics, homeownership, and home location choice. The Journal of Real Estate Finance and Economics, 48(1), 79-111.
  13. Cesarini, D., Johannesson, M., Lichtenstein, P., Sandewall, Ö., & Wallace, B. (2010). Genetic variation in financial decision‐making. The Journal of Finance, 65(5), 1725-1754.
  14. Knüpfer, S., Rantapuska, E. H., & Sarvimäki, M. (2019). Why does portfolio choice correlate across generations? (Bank of Finland Research Discussion Paper No. 25/2017). Retrieved from SSRN website: https://ssrn.com/abstract=3031165
  15. Fagereng, A., Mogstad, M., & Ronning, M. (2018). Why do wealthy parents have wealthy children? (University of Chicago, Becker Friedman Institute for Economics Working Paper No. 2019-22). Retrieved from SSRN website: https://ssrn.com/abstract=3339614
  16. Ghent, A. C., & Kudlyak, M. (2015). Intergenerational linkages in household credit (Federal Reserve Bank of San Francisco Working Paper No. 2016-31). Retrieved from Federal Reserve Bank of San Francisco website: http://www.frbsf.org/economic-research/publications/working-papers/wp2016-31.pdf
  17. Knüpfer, S., Rantapuska, E. H., & Sarvimäki, M. (2019). Why does portfolio choice correlate across generations? (Bank of Finland Research Discussion Paper No. 25/2017). Retrieved from SSRN website: https://ssrn.com/abstract=3031165
  18. Black, S. E., Devereux, P. J., Lundborg, P., & Majlesi, K. (2020). Poor little rich kids? The role of nature versus nurture in wealth and other economic outcomes and behaviours. The Review of Economic Studies, 87(4), 1683-1725.
  19. Bricker, J., Moore, K. B., & Thompson, J. (2019). Trends in household portfolio composition. In A. Haughwout & B. Mandel (Eds.), Handbook of US Consumer Economics. Academic Press.
  20. Kuhn, M., Schularick, M., & Steins, U. (2017). Income and wealth inequality in America, 1949-2016 (CEPR Discussion Paper No. DP12218). Retrieved from SSRN website: https://ssrn.com/abstract=3018472
  21. Saez, E., & Zucman, G. (2016). Wealth inequality in the United States since 1913: Evidence from capitalized income tax data. The Quarterly Journal of Economics, 131(2), 519-578.
  22. Knüpfer, S., Rantapuska, E. H., & Sarvimäki, M. (2019). Why does portfolio choice correlate across generations? (Bank of Finland Research Discussion Paper No. 25/2017). Retrieved from SSRN website: https://ssrn.com/abstract=3031165
  23. Cronqvist, H., & Siegel, S. (2015). The origins of savings behavior. Journal of Political Economy, 123(1), 123-169.
  24. Corak, M. (2013). Income inequality, equality of opportunity, and intergenerational mobility. Journal of Economic Perspectives, 27(3), 79-102.
  25. Corak, M., & Heisz, A. (1999). The intergenerational earnings and income mobility of Canadian men: evidence from longitudinal income tax data. Journal of Human Resources 34(3), 504-33.
  26. Björklund, A., Roine, J., & Waldenström, D. (2012). Intergenerational top income mobility in Sweden: Capitalist dynasties in the land of equal opportunity? Journal of Public Economics, 96(5-6), 474-484.