There are three main stages in retirement savings schemes which require nudging. In this article, we will look at the first, enrolment – how do we maximise the number of people saving effectively?
There is a multitude of problems that occur when employers and governments try to implement these schemes. Firstly, there is the issue of getting people to participate – it can seem pointless to some people to save for something that will only happen decades later, and so they simply choose not to. This can create serious problems in the future when they are left with little to no savings and have to rely on welfare programs, and this is the situation that needs to be avoided. In many of the firms where these issues have not been considered, the opt-in system is still in use. A report by Vanguard[1], an investment management firm, shows that out of the 473 plans for which they serve as a record keeper, 41% used the standard opt-in system and saw only a 47% participation rate. Considering this an investment for the future of the individual, it is shocking that less than half have chosen to take it up – however, this may not be due to not wanting to take part, but rather inaction due to the bias of loss aversion. As we have discussed earlier, loss aversion can create inertia, as it may seem like a loss to the individual if they have money deducted from their income despite it going to their own retirement investment plan.
There is also the issue of availability – although this reason may seem obscure, if a person who has just graduated and entered the job market is confronted with this decision, they will need to rely on similar situations available to them that they have already experienced. However, in this case, the reason the availability heuristic is a problem is not due to these ‘available’ past experiences causing irrational decisions, but rather there are no previous experiences that they can rely on. This is an action that they only carry out once in their lives, so they will not have any prior situations to draw help from. In turn, it may seem overwhelming, and inertia kicks in, where they choose to simply not participate.
The solution to this is to change the default – opt-out rather than opt-in. This scenario means that any inaction still ends in a rational choice for the individual and prevents any complications that come from insufficient retirement savings. Looking back at the Vanguard report we explored, the remaining 59% of companies that implemented an automatic enrolment system saw a participation rate of 93%. Compared to the opt-in participation rate of 47%, we can see that this simple nudge has almost doubled participation in the scheme and allows these workers to enjoy the benefits of a strong retirement portfolio, which will take them comfortably through their post-employment life.
If this was applied to all firms in the country, the government would not have to spend as much on welfare programmes for senior citizens, as the majority would have substantial savings allowing them to live happily and maintain a high standard of living. This money can be reinvested into infrastructure projects and education, raising the overall standard of the nation’s economy and allowing for future economic growth. This creates a positive feedback loop as more people become educated and no longer require benefit schemes to get by, relieving even more government funding to be reinvested and repeat the cycle. However, before this multiplier effect can take place and these expansive rewards can be realised, it still needs to be determined how much is contributed and where these savings will be invested – these two remaining factors will be our next areas of focus.
Before we progress, we also need to observe the downfalls of automatic enrolment. If an individual is struggling financially, then it is justified for them to use their income on bills and other necessary expenses. Therefore, if they are enrolled on a savings program unknowingly, this can cause a significant reduction in their income that can worsen their situation, making it even harder for them to survive and provide for their families. In addition, if the worker encounters a sudden accident or emergency and needs to pay a significant amount of money, they would have to rely on this savings account to fund this. However, if you try to withdraw money from the account before retiring, any of the money you withdraw is subject to income tax, costing the individual extra simply because they wanted to extract their own money.
[1] Vanguard: Clark, J. and Young, J. (2018). Automatic Enrolment and the Power of the Default. Available at: https://www.vanguard.ca/documents/automatic-enrolment-power-of-the-default.pdf
Economics 101 
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