Developing financial calculators

Without inflation protected DB pensions, people need decision making tools (financial calculators) to make informed and consistent decisions about savings and investment for retirement, and the pattern of consumption over their lifetimes. For investment they need a framework to trade off risk and return. They may also need to make a trade-off between leisure and consumption in particular deciding on retirement. The calculators will need to use utility functions that allow for a consistent approach to the trade-offs. This paper examines the assumptions underlying some of the common utility functions in the financial literature. It suggests alternatives that are simpler, more consistent with observations about observed behaviour, and may be more appropriate to use in financial calculators and in giving financial advice. The results are illustrated using two examples of different post-retirement income trajectories, which can perhaps be used to elicit people’s underlying utility functions.
The paper will be presented by Anthony Asher, who is co-ordinating an Australian academic/industry study on the development of financial planning calculators.