The man who was instrumental in encouraging behavioral finance-focused default structures in 401(k)s now cautions that those defaults need to be “smart.”
Speaking at the NAPA 401(k) Summit, professor Shlomo Benartzi — who, along with Richard Thaler authored and advocated the Save More Tomorrow structure back in the mid-1990s (which was incorporated in large part in the Pension Protection Act of 2006) — both applauded the retirement enhancement provisions in the SECURE 2.0 Act of 2022, and opined that the flexibility and options it affords plan sponsors (and participants) could instead produce paralysis.
Alternatively, in a presentation titled “SECURE 3.0 and Behavioral Economics — making the best nudge even better,” Benartzi cited research indicating that raising the default contribution rate to 6% or 7% didn’t significantly increase the opt-out rate (it remained about 10% until 8%, where it increased to 11.8%). Moreover, he noted that starting to accelerate the contribution rate in 90 days, rather than the typical 365 days did not reduce participation. He also said that that acceleration could be at 2% (rather than 1%) with no increase in opt-outs. Indeed, since median employee tenure remains about four years (and, though he didn’t comment on this, it’s been in the 5% rate pretty consistently since World War II), it was even more imperative that these timing and rate accelerations be put in place.
That said, Benartzi also acknowledged that there are other financial pressures beyond retirement for many Americans — commenting that while there is $9.3 trillion in defined contribution plans, that compares with a consumer debt load of $16.5 trillion. As a consequence, he suggested a decision quadrant where workers with no debt, but no match might be best served by a “save more tomorrow” approach, compared to a worker with no debt and a generous match would be better served by a “save more today AND tomorrow” structure. Those with expensive debt and no match, on the other hand, would find a save LESS today and more tomorrow structure.
Ultimately, the approach Benartzi presented was about presenting individuals with specific, monetary options — and a highlighted “optimal” choice — from which they could choose based on their personal preferences, but also benefit from a recommendation, rather than simply making a single default decision for all individuals irrespective of their personal choice or finances.
That recommendation/advice is key to helping individuals make better decisions, as Benartzi showed a number of studies indicating that un-advised individuals often — and in large majorities — often make decisions that are not financially optimal. More significantly, he noted that as a result of a “digital only” email outreach, 10% of individuals start the process, and 82% complete the personalization process and complete an account. In sharp contrast, when an advisor is involved, and while 81% complete the process and complete an account — that’s on a base of 98% of individuals who start that process.
In sum, while Benartzi suggested that SECURE 2.0 was a matter of making behavioral economics the default, his SECURE 3.0 would be making smart defaults the default.