Decision Making Under Conflicting Criteria InPension Valuations: An Expected Utility Model

Many of the criteria used by actuaries when selecting assumptions for pension plan valuations often conflict. As a result, actuaries must weigh the various costs and benefits associated with a particular set of assumptions. We use expected utility theory to model the process of chOOSing actuarial assumptions when faced with potentially conflicting criteria. The three criteria considered are prudence, best estimate, and conservatism. The actual contribution chosen by the actuary is found to depend on the contribution level that triggers a red flag with respect to tax deductibility. If this level is relatively low, the actuary chooses a high contribution that gives weight to each criterion, incorporating the risk of a penalty by tax authorities. If the tax deductible trigger is of an intermediate level, the actuary chooses this level exactly and insulates the plan from tax scrutiny; if the level is high, the utility maximizing contribution is below that level.