...solvency, liquidity, and investment asset accumulation. We test our models using a subjective measure of self-reported health status and two objective measures of health that control for the severity of specific health conditions. The results show that health problems significantly increase the likelihood of financial strain for older individuals, but the effects vary by the measure of financial strain used and how health status is defined. Specifically, existing health conditions were more likely to affect solvency and investment asset accumulation than liquidity, while new health events were more likely to affect solvency. The severity of the condition did not seem to matter as much as whether the condition was chronic. These results provide insight into the future financial security of older Americans and have important implications for health policy and research.

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As the U.S. population ages, there is considerable debate about whether rising health care costs and growing levels of household debt threaten the future financial security of older Americans (Copeland 2006; Johnson and Penner 2004). Currently, individuals aged 65 years or older spend, on average, 19 percent of their income on out-of-pocket health care expenditures, including health insurance premiums (Crystal et al. 2000). Out-of-pocket health care expenditures are projected to increase to at least 30 percent of after-tax income for older families by 2030 (Johnson and Penner 2004).

In addition to concerns over rising health care costs, there is growing concern that older Americans are accumulating too much debt. The average total debt held by a family with a head aged 55 years or older has risen significantly in recent years, from $29,309 in 1992 to $51,791 in 2004 (Copeland 2006). (1) The average debt held by a family with a head aged 75 years or older has increased by even more, from $7,769 in 1992 to $20,234 in 2004, an increase of more than 160 percent. Debt levels have grown fastest for lower-income families. Specifically, families in the lowest income quartiles experienced the largest percentage point increases in debt, from 38.0 percent in 2001 to 47.0 percent in 2004. If current projections are accurate, health care costs and household debt levels will continue to rise, resulting in greater financial strain for older Americans (Copeland 2006; Johnson and Penner 2004).

Previous research has examined how health affects the wealth depletion of the elderly (Hurd and Kapteyn 2003; Kim and Lee 2005; Lee and Kim 2003; Smith 1999, 2003). These studies have found that poor health significantly increases wealth depletion. This research, however, does not adequately investigate the extent to which health affects the overall financial security of older Americans. To what extent do health problems result in serious financial strain such as insolvency? Also, as wealth is depleted, how do the financial portfolios of older individuals change in response to health problems, especially to chronic health conditions? Many older Americans, especially those who are retired, do not have earnings that they can use to cover unexpected health care costs. Unlike the working population, they have to spend larger portions of their income on health care expenses as well as larger shares of their retirement wealth. For this reason, older Americans with health problems may experience changes in their portfolios, such as those related to liquidity and investment asset holdings.

Our study builds upon previous research and uses longitudinal analysis to provide a more complete picture of the effect that health status has on the financial strain of older Americans. Using data from the 2002 and 2004 Health and Retirement Study (HRS), we construct a series of financial ratio guidelines that account for a household's degree of financial strain (i.e., solvency, liquidity, and investment asset accumulation). Two-period models are estimated for a sample of the U.S. population aged 65 years or older to examine the impact that new and existing health events have on current financial strain and changes in financial strain. We test our models using both a subjective measure of self-reported health status and two objective measures of health that control for the severity of specific health conditions. The results of this study provide insight into the future financial security of older Americans and have important implications for health policy and research.

LITERATURE REVIEW

Health and Socioeconomic Status

A large body of research has examined the relationship between health and socioeconomic status (SES). Some studies have focused primarily on the impact that SES has on health status, examining whether low SES (e.g., income and wealth) leads to poor health (e.g., Drentea and Lavrakas 2000; Jacoby 2002; Meer, Miller, and Rosen 2003). These studies provide some evidence that lower SES can lead to poor health, either by the physical stress that financial strain creates or because of limited access to quality health care services. However, the effect of SES on health status typically has been found to be very small.

The majority of research related to health and SES tends to show that poor health results in lower SES (e.g., Adams et al. 2003; Kim and Lee 2005; Lee and Kim 2003; Lyons and Yilmazer 2005; Michaud and van Soest 2004; Smith 1999, 2003; Wu 2003). In fact, it is well documented in the literature that the dominant direction of causation for older Americans is not from SES to health, but from health to SES (Adams et al. 2003; Lee and Kim 2003; Michaud and van Soest 2004; Smith 1997, 1999).

The relationship between health and SES has been frequently documented using wealth because wealth captures command over economic resources, particularly consumption opportunities (Hurd 1990; Smith 1997). The link from health to wealth has been found using a variety of wealth measures. Some studies have used total wealth and found that poor health decreases the dollar amount of wealth held by the individual (Adams et al. 2003; Smith 1999, 2003; Wu 2003). Other studies have used the percentage change in wealth between two time periods (Haider et al. 2000; Hurd and Kapteyn 2003). They found that unanticipated health expenses resulted in a 10 percent decrease in savings. Kim and Lee (2005) and Lee and Kim (2003) used a binary measure to identify individuals who had experienced a depletion in wealth that was greater than 10 or 30 percent. They found that those with health problems experienced a more accelerated decline in wealth depletion than those without health problems.

Overall, these studies have showed that health problems can lead to declines in wealth for older Americans. However, this research has not adequately investigated the extent to which wealth depletion results in financial strain. In particular, do health problems deplete wealth to the point of insolvency? And, in turn, how do health problems affect the asset allocation of older individuals?

Financial Ratios and Portfolio Allocation

Researchers have identified several financial ratio guidelines that have been used to predict household financial strain such as liquidity problems and insolvency (e.g., Baek and DeVaney 2004; Chang, Hanna, and Fan 1997; DeVaney 1994; DeVaney and Lytton 1995; Garman and Forgue 2006; Lyons and Yilmazer 2005; Yao, Hanna, and Montalto 2003; Zeldes 1989). These financial ratio guidelines focus on assessing a household's ability to avoid excessive debt (solvency ratio), maintain adequate liquidity (liquidity ratio), and make progress toward financial goals (investment assets ratio). Since each financial ratio captures a slightly different aspect of the financial position of the household, a single ratio may not be comprehensive enough to accurately capture the degree to which households are under financial strain (Baek and DeVaney 2004; Lyons and Yilmazer 2005). For this reason, one might want to take into consideration several of these financial guidelines when examining the financial strain of older Americans.

To date, little research has examined the link between these financial ratios and health status. Using cross-sectional data from the Survey of Consumer Finances, Lyons and Yilmazer (2005) used three financial guidelines (delinquent on loan payments, total assets/total debts less than 1.0, and liquid assets/income less than 0.25) to examine the relationship between self-reported health status and financial strain for a general sample of the U.S. population. They found that for all three measures, poor health significantly increased the likelihood of financial strain. There was little evidence to show that financial strain contributed to poor health.

Two other recent studies by Rosen and Wu (2004) and Berkowitz and Qiu (2006) used data from the HRS to examine how health status affects the portfolio allocation decisions of older Americans. Rosen and Wu (2004) found that health status was a significant predictor of both the probability of owning different types of financial assets and the proportion of total financial wealth allocated to each type of asset. Specifically, they found that older households in poor health were less likely to hold risky financial assets and more likely to hold a greater share of their financial wealth in safe assets. Berkowitz and Qiu (2006) looked at how changes in health status affected the financial asset and nonfinancial asset holdings of older Americans. They found that new health events led to larger declines in financial than nonfinancial wealth. The reduction in financial wealth further resulted in older households restructuring the composition of their financial assets.

Health Status Measures

Within the literature, health status has been defined using a variety of measures. Despite differences in the measures used, little attention has been paid to investigating the impact that both self-reported and objective measures of health have on financial strain. Some studies have used individuals' self-reported subjective perceptions of their health. Self-reported measures serve as general indicators of health; typically, individuals are asked to rate their current health status from excellent to poor. While some have questioned the reliability and validity of self-reported measures, most research has found that they provide meaningful and reliable measures of an individual's actual health status (e.g., Baker, Stabile, and Deft 2001; Hoeymans et al. 1997; Idler and Benyamini 1997; Idler and Kasl 1991, 1995; Meer, Miller, and Rosen 2003). Hurd and Kapteyn (2003) used self-reported measures from both U.S. data and data from the Netherlands to show that there was a strong positive association between health and income and health and wealth. Another recent study by Lyons and Yilmazer (2005) used a self-reported measure from the Survey of Consumer Finances to show that poor health positively, and significantly, affected financial strain.

Other studies have used more objective measures that control for the prevalence and incidence of specific health conditions such as functional impairments, medically diagnosed conditions, and chronic diseases (Adams et al. 2003; Haider et al. 2000; Kim and Lee 2005; Lee and Kim 2003; Smith 1999, 2003; Wu 2003). These studies have examined how existing health conditions and new health events affect wealth depletion. Some also have looked at how these effects differ by the severity of the condition (e.g., a mild or severe chronic condition). In general, the findings show that existing severe chronic conditions have a significant impact on the wealth depletion of older Americans, while existing mild chronic conditions do not. The results further show that both new health events and existing chronic conditions lead to significant wealth depletion.

METHODS

Theoretical Framework

The life cycle theory of consumption and savings provides a framework for explaining how older individuals spend down their financial...

NOTE: All illustrations and photos have been removed from this article.




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