Life Cycle Option Value

The value of consumer flexibility in planning for retirement


Recent policy shifts in many of the advanced economies worldwide confront indi- viduals with a greater personal responsibility in planning for their retirement. In this review paper, we build on the life cycle model and address how individuals should consider the importance of flexibility when planning for their retirement, taking an options-based view. We first address the notion of personal decision flexibility and outline its usefulness by providing an overview of the key research areas where option value has been investigated. We then apply an options-based view to personal life cycle planning. This general view is followed by a discussion of the three key capital components in a person’s life cycle: financial capital, human capital, and health capital. For each of these components we provide examples of relevant consumer trade-off decisions and of the impact these decisions may have on life cycle option value. Next, we present an overview of behavioral considerations that can play a role in the evaluation of option value in retirement life cycle decisions. We conclude with a more practice-oriented discussion of an example of option value and mid-career retraining, including a presentation of general social challenges related to differences in option value between individuals.


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