Though I started Nudge last year, I’ve just now resumed reading it. If you’ve already read the book this subject should be familiar. If you haven’t read the book, you should. The only warning is that it’s written by academics, and they never seem to strike the balance between good reading and good material (Freakonomics being an example of a good balance, thanks in part to the partnership of an academic and a journalist).
Nudge is about gently pushing people to make the decisions that are best for them. I won’t talk about the other subjects, but I am going to talk about nudging people into making the right decisions for their retirement.
The unfortunate circumstance of the current methods of signing up for retirement plans is that we have to sign up for retirement plans. When we have to do something, we have a tendency not to do it. It’s why my 401(k) is still with my previous employer, why I’m writing this post the night before publishing, and the emergence of a tummy around my waist that used to be much smaller. I know I should do something about these things (and I am), but not fast enough. And there are dozens of other things I should be doing but aren’t. For many people, they know they should be saving for retirement and even want to start it up, but never get around to do it.
There is a solution. Currently, when you start working for a new employer you are given information about their retirement plans. You have to choose to set it up. This is opt-in. Instead, we need opt-out retirement plans. In an opt-out plan you are immediately signed up for the retirement plan when you start and you have to choose to opt-out of the plan. Without citing the specific results of studies from the book (and because I’m too lazy to look them up), this actually works.
But how would these plans work in a real world application? Ideally, new employees would be placed in these plans making at least 10% contributions to retirement with some kind of company match. Also, they’d be placed in at least a 50/50 asset balance between stocks and bonds. But the issue there will be exposing people to more risk than they’re comfortable with. If the market turns south these people could sue their employers for losing their money. 10% of a paycheck may also spark too many people to opt-out. At best, I’d say 5% of a paycheck put in a low risk bond fund would be possible. But to be perfectly honest you’d probably end up with 2.5% in a money market with a 100% match in company stock. Hardly an ideal portfolio, and you all know that no one will be able to retire by saving so little.
However, there are other things that can be done to move the process along. Anyone that chooses to opt-out or accept the minimum investment should be required to take a personal finance class of some sort. Many online tutorials offer 1-3 hour readings with tests and reviews. This way those that opt-out understand exactly what they are doing and those that accept the minimum understand that this will not be sufficient and the portfolio they end up with will not be efficient.
To further assist in the retirement process, savings could be ratcheted up as the employee makes more money. 50% of raises would automatically go to retirement savings until a threshold of 10% of earnings are being saved (at which point savings moves in lock-step with bonuses and raises).
There is an issue with the opt-out retirement plans, it assumes people are too stupid to make the right decisions. You can’t walk through life assuming everyone is too dumb for their own good.
Actually, you can. We’re too stupid to acknowledge certain foods are bad for us so warnings are placed on them. We’re too stupid to exercise even though we know it can reduce our health costs and make us happier. We’re even too stupid not to get in the car and drive after drinking. So maybe stupid is a harsh term, let’s just say people are too easily distracted and short-sighted to do the right thing all the time. So we need incentives, consequences, and opt-out retirement plans to helps us along the way.
Note: opt-out retirement plans are far from being an original thought of The Weakonomist. They aren’t even the idea of the authors of Nudge. But they think it’s a good idea, and so does The Weakonomist.
 By The Weakonomist |
The Weakonomist is the founder of Weakonomics. Clicking the picture of the puppy will tell you more about him. If you like what you're reading consider subscribing to the blog, following him on Twitter, and checking out the related posts below. Please consider a donation if you really enjoy Weakonomics. Also keep in mind that nothing I say can be construed as financial advice. |
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Said,
Great post. The problems with saving for retirement, working out, and eating healthy are that their incentives (retiring on time and being healthy) seem far off and abstract. If high-calorie foods turned our skin purple for the hour after we ate them, we probably wouldn’t have an obesity problem. Likewise, if we could be sent to debtors’ prison today for not saving for our retirement 20 years from now, we’d probably all have millions saved. That, or I guess you could make the incentive extreme. (i.e. If you weigh over 175 pounds on April 13th, 2022 you will be executed.) We might get people to plan ahead even though the deadline is far off that way. Anyway, good stuff to think about.
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