A penny saved may be a penny earned. But how many pennies do you need to save today to ensure sufficient income when you retire?
New research from Department of Work and Organizations Assistant Professors Colleen Flaherty Manchester and Aaron Sojourner could help Americans answer that question, make more-informed savings decisions, and be better prepared for their golden years.
Over the past 30-plus years, a dramatic change in the pension plan landscape has shifted the retirement savings responsibility from the employer to the worker. In that time span, defined contribution (DC) plans such as 401(K)s and IRAs have increased fivefold. However, despite the fact that the vast majority of Americans with employer-provided retirement benefits participate in a DC plan, calculating the best level of saving today in return for the prospect of some distant payoff in retirement remains a complex proposition for most, and the general consensus among experts is that individuals aren't saving enough.
"It's not a situation like buying lunch where you do it everyday and you get immediate feedback," says Sojourner. "With retirement savings, you make a decision about how much to save and you don't get feedback on whether you made the right decision until 40 years later when you retire. You can't correct course."
In an effort to provide workers with feedback during their working years and a better understanding of the connection between current savings and retirement income, Manchester, Sojourner, and Stanford University's Gopi Shah Goda conducted a field experiment involving nearly 17,000 University of Minnesota employees.
Randomly-chosen subjects received an informational intervention that prompted them to think about retirement needs, provided a customized projection of their retirement income based on hypothetical additional contribution levels, and offered instructions on how to change one's current savings. A control group was not sent the same brochure.
The findings? The researchers' nudge affected savings behavior. While the percentage that elected to change their contribution levels was modest, the amount saved was not.
Among those who made changes, the intervention increased average savings by an additional $1,000 per year.
"Given that we were able to find some effect even with a one-time intervention is a proof of concept that this type of information is valuable to individuals and can lead to an improvement in saving behavior," says Manchester.
Manchester adds that the design of the project also helps unite divergent reasoning on why individuals aren't saving enough. "We're able to get at both the challenges posed by financial literacy as well as the more behavioral barriers of procrastination."
"What's My Account Really Worth? The Effect of Lifetime Income Disclosure on Retirement Savings," the first large-scale study on the effect of income disclosure, has been presented at several conferences and is garnering the attention of financial services industry and policymakers. Congress is currently considering the Lifetime Income Disclosure Act that would require plan administrators to provide participants, on an annual basis, with information similar to what was sent by the researchers.
"Among employers there's also a real interest in this kind of policy," adds Sojourner. "It could encourage more savings and support better decision-making among employees. And it doesn't require them to put in a lot of money."