Overcoming behavioural biases in retirement saving

Rather, gently nudging people into adopting more individually optimal and social desirable behaviour is increasingly and successfully being applied by policymakers in many aspects of everyday life.

As social animals, most people are heavily swayed by others in their actions and opinions

Therefore it would seem that gentle nudges, auto-enrolment being but one example, are ripe for addressing the UK’s biggest socio-economic challenge – the inadequacy of retirement saving – particularly at a time when individuals are becoming increasingly reliant on defined contribution pots to support their standard of living in retirement.

Behavioural impediments to long-term saving

Overcoming this behemoth of a challenge behaviourally entails conquering two deeply engrained behavioural biases: present bias and anchoring.

Present bias is the preference for spending today over saving for tomorrow, given an inability to both align the upfront costs of saving with the benefits that may arise far into the distant future and to visualise one’s older self.

By contrast, anchoring is latching onto the minimum contribution level in the mistaken belief that this has been endorsed by their trusted employer or, as auto-enrolees, by the government, as sufficient to provide an adequate sum in retirement. The reality, of course, is very different.

Overcoming present bias and anchoring

First, present bias. Being unable to visualise one’s older self means the savings decision becomes a choice between spending money today and saving for a stranger to spend our money tomorrow.

However, by seeing an avatar of their older selves, people are willing to more than double their long-term saving. Visualising themselves still enjoying those expenditures they enjoy today far into the future means the savings decision is framed as providing a source of funds to finance the continuation of these activities.

More closely aligning costs with benefits also underlies the ‘save more tomorrow’ system, or the automatic escalation of DC contribution rates. By committing today to paying increased contributions only in the event of receiving future pay rises, the individual delays the cost of saving until tomorrow.

By contrast, rewarding, say, every £100 per month saved with a lottery ticket, brings the benefits of long-term saving closer to today. As people tend to overestimate the probability of positive events materialising, they visualise themselves sitting on a big pile of lottery cash at the end of the month, making the benefits of long-term saving appear more salient.

Lottery tickets can also move contribution levels away from the minimum contribution anchor, as can simple framing and contextualisation. ‘Save 3 days’ salary per month’ is one example. Another is illustrating on an employee’s monthly payslip (the one document all employees read) the monthly income stream their accumulated contributions might generate at their scheme’s normal retirement date versus what the employee is currently earning.

Then there is reframing pensions tax relief as a ‘savers bonus’ with a simple illustration, such as a £50 bonus for every £200 saved. Likewise, positioning employer contributions as ‘free money’ encourages employees to move beyond the minimum contribution rate, given that most are incentivised by the size of their trusted employer’s contribution.

Positive social norms

Using positive social norms can also help develop a long-term savings culture. As social animals, most people are heavily swayed by others in their actions and opinions.

By publicising favourable statistics that show most people in a relevant cohort having started saving and disclosing the amounts involved, again if favourable, encourages others in that cohort to conform with the perceived social norm, so creating a virtuous circle.

Applying behavioural interventions in a simple, attractive, timely and personalised manner, could not only generate more optimal savings decisions, but could ultimately lead to a retirement to be enjoyed rather than endured.

As traditional measures to get the nation saving simply have not worked, and compulsion goes against the libertarian ethos of not telling people what to do with their own money, surely it is time to think and act behaviourally?

Chris Wagstaff is head of pensions and investment education at Columbia Threadneedle Investments