The Economic Life Cycle

Incomes vary predictably over people’s lives. A young worker, especially one in school, has a low income, Income rises as the worker gains maturity and experience peaks at around age 50, and then falls sharply when the worker retires at around age 65. This regular pattern of income variation is called the life cycle Because people can borrow and save to smooth out life cycle changes in income, their standard of living in any year depends more on lifetime income than on that year’s income. The young often borrow perhaps to go to school or to buy a house, and then repay these loans later when their incomes rise People have their highest Saving rates when they are middle-aged. Because people can save in anticipation of retirement, the large declines in incomes at retirement need not lead to similar declines in the standard of living This normal life cycle pattern causes inequality in the distribution of annual income, but it does not necessarily represent true inequality in living standards.

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