US work­ers can thank No­bel win­ner for fu­ture com­fort

Irish Examiner - Supplement - - PENSIONS - Ben Stev­er­man

Amer­i­can work­ers who have a 401(k) plan at work, all of whom are set­ting more money aside for retirement than pre­vi­ous gen­er­a­tions, may not know that they are do­ing so be­cause of Richard Thaler.

The No­bel prize for eco­nomics tries to recog­nise im­por­tant re­search with far- rang­ing con­se­quences, but Th aler, awarded the prize on Mon­day, may well be the first prize win­ner to have had an al­most im­me­di­ate ef­fect on mil­lions of peo­ple’s pay.

Over the last few decades, as more and more Amer­i­can em­ploy­ers killed off their pen­sion plans, work­ers were of­fered 401(k)s— or sim­i­lar retirement plans — with de­fined con­tri­bu­tions in­stead of de­fined ben­e­fits.

Th­ese vol­un­tary ac­counts should have worked, in the­ory. Stan­dard eco­nomic the­ory as­sumes peo­ple act ra­tio­nally: Work­ers, left to their own de­vices, should save and in­vest prop­erly to meet their long-term goals.

How­ever, Th aler and other ad­her­ents of be­havioural eco­nomics pointed out that work­ers sav­ing for retirement can be their own worst en­e­mies. With­out help, Thaler ar­gued, they’ll never re­tire .“Prob­a­bly [ be­havioural eco­nomics’] big­gest im­pact is chang­ing the way retirement plans are run,” said Thaler in a speech at the CFA In­sti­tute an­nual con­fer­ence in May.

For years, Th aler cham­pi­oned the idea that em­ploy­ees should be “nudged” into join­ing retirement plans, a con­cept known as au­to­matic en­rol­ment. Rather than wait­ing for work­ers to fill out 401(k) pa­per­work, em­ploy­ers should au­to­mat­i­cally sign them up for the plans.

If the em­ploy­ees aren’t in­ter­ested, they can al­ways opt out.

In a sur­vey by the Plan Spon­sor Coun­cil of Amer­ica (PS CA) last year ,58% of plans were au­to­mat­i­cally sign­ing up work­ers. That’s up from just 8.1% in 2000.

Th aler didn’ t come up with the idea of au­to­matic en­rol­ment, even if he helped pop­ula rise it in the 2008 best­seller he co- au­thored with Cass Sun­stein, Nudge: Im­prov­ing De­ci­sions About Health, Wealth, and

Happiness. Thaler did, how­ever, de­velop the no­tion of au­to­matic es­ca­la­tion, also called “save more to­mor­row”, along with Shlomo Be­nartzi, a be­havioural econ­o­mist at the Univer­sity of Cal­i­for­nia at Los An­ge­les.

The goal ofauto- es­ca­la­tion is to boost how much work­ers are sav­ing. Set­ting aside 15% of your salary — an ap­pro­pri­ate goal for many mid­dle- and up­per-in­come work­ers — can feel im­pos­si­ble.

Auto-es­ca­la­tion ad­dresses this by nudg­ing work­ers to agree to fu­ture in­creases in their sav­ings rates, usu­ally by 1 per­cent­age point each year.

A ma­jor­ity of em­ploy­ers now of­fer some kind of auto-es­ca­la­tion fea­ture, ac­cord­ing to the PS CA, though of­ten work­ers need to proac­tively sign up for the op­tion.

Au­to­matic es­ca­la­tion can have a big im­pact on peo­ple’s sav­ings rates — that is ac­cord­ing to a re­cent anal­y­sis con­ducted by David Blanchett, the head of retirement re­search at Morn­ing star In­vest­ment Man­age­ment.

Ac­cord­ing to re­search by Jack VanDer­hei — of the US-based Em­ployee Ben­e­fit Re­search In­sti­tute — the com­bi­na­tion of auto-en­rol­ment and auto- es­ca­la­tion can sub­stan­tially boost a worker’s chances of re­tir­ing with enough in­come.

In Thaler’ s world of de­faults and nudges, much de­pends on get­ting the de­tails right. The wrong kind of “nudges” can be de­struc­tive. Many com­pa­nies en­cour­age work­ers to in­vest much of their retirement in com­pany stock, some­thing Thaler has ar­gued is too risky for work­ers.

He also says many com­pa­nies are en­cour­ag­ing work­ers to save too lit­tle.

“One prob­lem with au­to­matic en­rol­ment is most firms start peo­ple out at too low a rate,” he said in his May speech.

Still, the best- de­signed nudge in the world won’t get some­body to save enough for retirement if that per­son isn’ t be­ing paid enough. Thaler’s nudges also can’t reach the mil­lions of Amer­i­cans who don’t have retirement plans at work—at least not yet.

That may change. Sev­eral states are set­ting up au­to­matic in­di­vid­ual retirement ac­counts ( IRAs) aimed at the third of work­ers who don’t have ac­cess to 401(k)s or pen­sions, and the de­tails of many of those new plans seem ripped from the pages of Thaler’s re­search.

Ore­gon, which launches the first auto-IRA pro­gramme this month, will start work­ers out sav­ing 5% of their salaries, un­less they choose to ob­ject. Their con­tri­bu­tions will then auto-es­ca­late ev­ery year by 1 per­cent­age point, ris­ing un­til they hit 10%.

Richard Thaler, econ­o­mist, No­bel prizewin­ner: his ‘auto-es­ca­la­tion’ model is see­ing some US work­ers ‘nudge’ an ex­tra 1% con­tri­bu­tion into their pen­sion pot each year up to a max­i­mum of 10% of salary.

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