Causal Effect of Cognitive Decline on Labor Supply of Older Adults

Delaying retirement is an important policy solution in response to socioeconomic challenges imposed by the demographic trend of aging. Previous research shows that improvement of health capacity from older workers in 1977 to their counterparts in 2010 leads to additional 4 to 31 percentage points of men’s employment rate varying by age groups. However, as a form of health capital, the causal effect of cognitive decline on labor supply of older adults has been rarely discussed.

This paper is the first study that examines the causal effect of sharp cognitive decline on labor supply of older adults. Understanding the effect of cognitive decline on labor supply of older adults contributes to knowledge about the cost benefit of policy interventions on delaying dementia and cognitive decline. Further, this paper provides insights about the feasibility of policy interventions on delaying retirement.

This research utilizes the biennial nationally representative longitudinal data – the Health and Retirement Study (HRS) 1996-2012. The study sample consists of older adults aged 50 to 65 who are working for pay. The HRS utilizes cognitive test score from the Telephone Interview for Cognitive Status (TICS), which is widely used to study cognition of older adults across countries. This paper is specifically interested in older workers who experience sharp decline in cognitive functions in two years. Cognitive decline in this study, therefore, is defined if one experiences 1 or more standard deviation decline in their cognitive score in two years, accounting for 10% of the whole population.

This research assumes that sharp cognitive decline is a random health shock controlling for onset of heart disease, diabetes, hypertension and change in BMI. Covariates include socioeconomic status and demographic factors (race, sex, age, education, marital status), status, and the onset of heart disease, diabetes and hypertension, baseline levels of cognitive function and occupation.

The magnitude of the effect of cognitive decline on working expectation, accounting for 10 percent of older workers aged 50 to 62 (2.24 percentage points decrease), is half of the magnitude of onset of heart disease on early retirement (4.64 percentage points decrease), and higher than that of diabetes (1.81 percentages points increase, not statistically significant) and change in BMI (-0.04, not statistically significant). Yet cognitive decline has no statistically significant effect on expected working probability at age 65.

The result indicates that unexpected cognitive decline is associated with updates in early retirement decision. Although the magnitude of cognitive decline is smaller than the onset of heart disease, it is larger and more statistically significant than the effect of diabetes and hypertension. Interventions on preventing cognitive decline in addition to interventions on delaying physical health deterioration at middle to late age may prolong the working life of older adults.