“Nudge” Economist Richard Thaler Wins Nobel Prize

 In Retirement Planning & Wealth Management

Can cheap and easy interventions help people make better decisions in everyday life?

Yes, according to 2017 Nobel Prize winner in Economic Sciences Richard Thaler. Thaler is one of the founding fathers of “nudge” theory, based on the premise that humans are predictably emotional and irrational, and that nudging them in the right direction can help. A professor at the Booth School of Business at the University of Chicago, Thaler is perhaps best known for his 2008 book co-authored with Cass Sunstein called “Nudge: Improving Decisions About Health, Wealth and Happiness.”

In my meetings with hundreds of retirement professionals each year, I find that the most pertinent example of the value of the cheap and easy in the world of retirement planning is auto-enrollment. Today, most research concludes that about half of 401(k) plans automatically enroll participants. Although an “opt-out” is available, research suggests that less than 10% of participants actually do so.

While auto-enrollment has greatly increased overall plan participation in the U.S., too many plans default participants at a mere 3%, which is hardly enough to adequately replace pre-retirement income. More recent research suggests that employers can set the default as high as 6%, before experiencing a noticeable increase in opt-outs.

Auto-enrollment is hardly the only example that illustrates the power of a nudge. In countries such as Austria, laws make organ donation the default option at the time of death, so people must explicitly “opt out” of organ donation. In these so-called opt-out countries, more than 90% of people donate their organs. Yet in countries such as U.S. and Germany, people must explicitly “opt in” if they want to donate their organs when they die. In these opt-in countries, fewer than 15% of people donate their organs at death (Stanford University, 2017).

Of course, not all nudges need to be as serious as retirement planning or organ donations. Housefly stickers have been placed in urinals throughout Chicago to “improve aim.”

When Thaler was asked how he plans to spend his award of 9M krona (£840,000, or about $1.1 million), he responded, “as irrationally as possible.”

To learn about more “nudges” that work with defined contribution plans, read our latest DC in Review.

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