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Incorporating Employee Heterogeneity Into Default Rules for Retirement Plan Selection

  • Gopi Shah Goda
  • Colleen Flaherty Manchester

This paper examines the effect of incorporating individual-level heterogeneity into default rules for retirement plan selection. We use data from a large employer that transitioned from a defined benefit (DB) plan to a defined contribution (DC) plan, offering existing employees a choice of plans. Employees who did not make a choice were defaulted to switch to the DC plan if under age 45 or remain in the DB plan if age 45 or older. Using a regression discontinuity framework, we estimate that the default increased the probability of enrolling in one plan over the other by 60 percentage points. We develop a framework to solve for the optimal age-based default rule analytically and use our results to empirically evaluate the optimal age-based default rule for the firm in our setting. We show that for a broad range of levels of risk aversion, conditioning the default for the choice between pension plans on age can substantially improve outcomes relative to a uniform default policy. Our results suggest that considerable welfare gains are possible by varying defaults by observable characteristics.

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File URL: http://crr.bc.edu/working-papers/incorporating-employee-heterogeneity-into-default-rules-for-retirement-plan-selection/
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Paper provided by Center for Retirement Research in its series Working Papers, Center for Retirement Research at Boston College with number wp2010-5.

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Length: 45 pages
Date of creation: May 2010
Date of revision:
Handle: RePEc:crr:crrwps:wp2010-5
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  10. Raj Chetty, 2006. "A New Method of Estimating Risk Aversion," American Economic Review, American Economic Association, vol. 96(5), pages 1821-1834, December.
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  13. Brigitte C. Madrian & Dennis F. Shea, 2001. "THE POWER OF SUGGESTION: INERTIA IN 401(k) PARTICIPATION AND SAVINGS BEHAVIOR," The Quarterly Journal of Economics, MIT Press, vol. 116(4), pages 1149-1187, November.
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  15. Imbens, Guido W. & Lemieux, Thomas, 2008. "Regression discontinuity designs: A guide to practice," Journal of Econometrics, Elsevier, vol. 142(2), pages 615-635, February.
  16. Moshe A. Milevsky & S. David Promislow, 2004. "Florida's Pension Election: From DB to DC and Back," Journal of Risk & Insurance, The American Risk and Insurance Association, vol. 71(3), pages 381-404.
  17. Olivia S. Mitchell & Gary R. Mottola & Stephen P. Utkus & Takeshi Yamaguchi, 2009. "Default, Framing and Spillover Effects: The Case of Lifecycle Funds in 401(k) Plans," NBER Working Papers 15108, National Bureau of Economic Research, Inc.
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