Some save and intertemporally optimize their consumption plans, while others live paycheck to paycheck, spending their entire income as soon as it's received … Apparently, the new Supreme Court nominee Sonia Sotomayor is an example of the latter. The Washington Post reports that the 54-year-old Sotomayer has a $179,500 yearly salary but “On her financial disclosure report for 2007, she said her only financial holdings were a Citibank checking and savings account, worth $50,000 to $115,000 combined. During the previous four years, the money in the accounts at some points was listed as low as $30,000.” My grandmother would have been shocked and appalled to see someone who makes so much save so little.
That a 54 year woman with high income has only a modest amount in her bank accounts strikes Dr. Mankiw as strong evidence that she has consumed more of her past income than would be implied by the life-cycle model. But I can see at least two explanations for these facts that are entirely consistent with intertemporal optimization of one’s consumption plans. One has to do with the possibility that one’s expected future income can sustain high consumption in one’s later years, which conservative Tom Smith notes:
any day she wants to she could walk out of her current job and into a partnership at a law firm in Manhattan or DC and get paid (guessing again) maybe $2 million a year, with the potential for a lot more. In short, when you take Sotomayor's human capital and circumstances into account, there is nothing wrong with her balance sheet. Sure, she could have another $500,000 tucked away, and that would be nice. But why should she? She has no dependents, except maybe her mother, but her brother is a doctor who, let us assume, is doing well. She has a guaranteed job for life with very generous retirement and health benefits, and any day she decides she wants to be a millionaire, all she has to do is pick up the phone.
The other has to do with the possibility that her compensation includes more than simply this stated salary but also consists of deferred compensation in the form of contributions to a pension plan. Brad DeLong notes that Sotomayor’s wealth in the form of a defined pension plan may be $2.5 million:
Sonia Sotomayor has a large defined benefit pension with a current market value of roughly $2.5 million. Sonia Sotomayor has roughly $1 million in equity in her Greeenwich Village condo. Sonia Sotomayor has no descendents to bequeath wealth too.
How could someone as smart as Dr. Mankiw miss the obvious possibilities? Maybe he posted this very incomplete analysis as a test for his Harvard students to see if they could articulate the possible explanations of the facts presented in his post in a way that was consistent with the life-cycle model.