If you’re like most American workers, it’s easier
for you to buy a flat-screen TV today than to save for a future when you
might be too deaf to hear it. The reasons why, however, have little to
do with Cyber Monday specials.
Our deficits are many, and
they’re not entirely our fault. We’re the products of ancestry, culture,
and upbringing, after all, and we approach retirement planning with
deep-seated forces stacked against us that go back to humanity’s
earliest days.
“There are good, biological reasons why you
want to live with what you have rather than save for an uncertain
future,” said Jeffrey Stevens, assistant professor in the department of
psychology at the University of Nebraska-Lincoln, who studies the
development of human decision-making.
Read: We’re all idiots about money and there’s little we can do about it One
byproduct of this evolutionary, cultural and parental baggage is an
estimated national retirement deficit — the amount by which U.S.
households will collectively fall short of their projected needs — of
$4.13 trillion, according to the Employee Benefit Research Institute.
And while average 401(k) balances at Fidelity hit a record last year,
that average was just enough to fund one year in a private room of a
median-cost nursing home.
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To close that gap, retirement plan designers are taking aim at
human behaviors in both plan design and employee education to encourage
better saving. This isn’t altruism: Well-designed retirement plans can
help employers attract and retain workers, and companies generally
prefer that their workers retire on schedule to manage costs.
They’re
doing that by plumbing the field of behavioral finance, which studies
the reasons people make seemingly irrational financial decisions.
MarketWatch explored three of the biases — default, present and optimism
— that may be keeping us from saving as much as we should without our
realizing it.
Default bias pulls us toward the option in front of our faces
It’s
natural that humans feel comfortable sticking with the default. Hunters
and gatherers didn’t accumulate wealth for the future, instead
consuming resources as they became available, said Coren Apicella,
assistant professor of psychology at the University of Pennsylvania.
While daily survival was no mean feat, it didn’t require much complex
decision-making.
Our default bias might be an outgrowth of
“a mismatch between our ancestral environment and the modern world,”
Apicella said. Humans today need to make complex, forward-looking
decisions that weren’t required of us in our ancestral pasts. Whenever
possible, we let those decisions slide.
Students
of human behavior have long known that we eschew active
decision-making, preferring to stick with whatever option is before us.
The Pension Protection Act of 2006 paved the way for the widespread use
of auto-enrollment, which exploits inertia by enrolling workers in
401(k) plans automatically and requiring those who don’t want to
participate to opt out.
Read: 7 lies investors tell themselves
Similarly,
auto-escalation automatically increases the rate at which employees
save. This is key, since around half all of plans still default
participants into a too-low savings rate of 3% of their salary — a rate
workers tend to interpret as a recommendation rather than a fluke of
history. (The 3% rate became widely adopted after it was used in an
early government illustration that wasn’t intended as an endorsement,
industry experts say.)
Since we’re hard-wired for passivity,
companies are studying the best times to let workers know when to act.
“If you’re asking people to make complex decisions, it matters if
they’re not tired,” said Stephen Wendel, head of behavioral science at
Morningstar. A study Wendel’s team conducted for a large retailer found
Sunday evening was the best time to email employees, while a large
manufacturer found the sweet spot during a midweek morning.
And
then there are times to avoid: “At 2 a.m. you don’t want to send
anything, because half of the people on the Internet are drunk,” said
Shlomo Benartzi, professor and co-chair of the behavioral
decision-making group at the UCLA Anderson School of Management and
chief behavioral economist at AllianzGI, who has studied how plan
participants make decisions. (One finding: “People make more emotional
decisions on smaller screens.”)
We can co-opt our default
bias for our own good with some self-awareness, said Sudeep Bhatia,
assistant professor of psychology at the University of Pennsylvania.
Those with college-bound children, for example, can put college savings
on autopilot through regular bank account withdrawals into a 529 plan.
Present bias makes the pull of instant gratification strong
Instant
gratification is well-documented in scientific literature and ingrained
in our consumer culture. Humans tend to prefer current rewards over
future rewards, discounting the gains that frugality today can yield
tomorrow.
“Universally, people are motivated for the here
and now,” said Hal Hershfield, assistant professor of marketing at the
UCLA Anderson School of Management, who has worked with Prudential on
various campaigns that use behavioral finance to help people save.
From an evolutionary perspective, this makes sense: The
future was uncertain for ancestors who spent their days hunting wild
animals. What’s more, saving for the future might have meant starving
now. (That remains the case for many low-wage workers today.)
Our
upbringings can either enhance our natural tendency for instant
gratification or help us restrain it. People who grew up in households
where money was regularly discussed but not argued about usually have
better impulse control than those who grew up in homes where discussing
money was taboo, said Nancy Molitor, a practicing clinical psychologist
and assistant professor of clinical psychiatry and behavioral sciences
at Northwestern University Feinberg School of Medicine.
Read: 6 ways thinking differently can make you money
Molitor
has affluent clients who never had to limit purchases growing up. Their
parents bought them whatever they wanted, and the means to that end
wasn't discussed. This makes it hard for them to self-regulate in
adulthood. “I often see people with the means to save, in their prime
earning years, and yet they struggle,” Molitor said.
Saving
seems risky to these people, Molitor said, even though not saving is far
riskier. Gradual exposure is key in helping them overcome their fear,
she said. Beginning savers can start by putting away a tiny amount a
month — as little as $1 will do — and then gradually increasing that
amount when they see that no harm has come from their efforts.
Regardless
of our backgrounds, it’s hard for most of us to envision our future.
This makes saving for a vague point on the horizon more difficult than
saving for, say, a wedding next year. This, too, has evolutionary
underpinnings.
Courtesy Prudential
A photo of this story's author, aged using an application like
one Prudential provided to a client. (Courtesy Prudential)
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complex thinking thousands of years ago, the average lifespan was much
shorter than it is today. “We didn’t live that long,” Stevens said.
“There was minimal retirement.”
Prudential and other
companies have tried to help workers over this hump by aging pictures of
their faces. “It’s trying to ramp up the emotional connection to our
future selves,” Hershfield said.
To the extent that we can
visualize our futures, we might picture them differently than our peers.
Companies have begun tailoring the retirement images they present to
particular worker demographics, said Robyn Credico, defined contribution
practice leader at consulting company Towers Watson: While a lone
figure on a golf course might be the ideal retirement vision for some,
others might prefer a picture of a large, multigenerational meal.
Those
of us without full-on phobias who nonetheless find it hard to save can
make indulging harder, experts advise. We can avoid the shoe store if we
can’t leave without buying a pair, delete the bookmarks of our favorite
online retailers, stop saving our credit card information on e-commerce
sites and opt out of promotional emails.
Optimism bias can make us think too highly of the days to come
People
tend to be optimistic about the future, which causes us to rationalize
our lack of planning. “Things will work themselves out,” we say. Or,
“I’ll deal with it when I get there.”
This could have
evolutionary underpinnings, according to Stevens. If our ancestors
weren’t optimistic about the future, they wouldn’t have ventured forth
to explore new lands, and society wouldn’t have progressed to the extent
it did.
When motivating employees to save for the future,
Fidelity opts for positive reinforcement instead of negative messages
that can foster apathy, said Jane Souza, senior vice president of
workplace solutions at Fidelity Investments, which acts as the 401(k)
record keeper for 21,000 companies representing 13 million investors.
Instead of a red “danger zone” on the online dashboard of a saver who’s
not on track to meet her goals, for example, the system may give her a
green check mark when she completes a step to encourage her to continue.
Prudential
has designed employee seminars to address optimism bias, part of the
company’s effort to “blow up” traditional 401(k) education, said
Jennifer Putney, vice president, marketing & strategy, total
retirement solutions at Prudential Retirement.
Workers are
asked to post experiences that happened in their past on one board, and
post experiences that might happen in their future on another board.
Good things went on yellow post-its and bad things went on blue
post-its. (The company also ran a television commercial showing this
exercise done on a large scale with magnets.)
The board
representing the past was an even mix of yellow and blue, but the future
board was mostly yellow. The goal is for workers to realize that the
future, like the past, will probably be a mixed bag , and that it’s
prudent to set aside funds for the rainy days to come.
Simply
recognizing that optimism bias exists can go a long way in helping us
overcome it. Part of that involves recognizing that we’re not going to
magically become different people as we age.
“We’ll have the
same emotional makeup in the future,” Hershfield said. If we can easily
save today, we’ll easily save tomorrow. If it’s hard for us to save
now, it will require effort — and not the passage of time — to change
that.
Culled from MarketWatch
