[Senate Hearing 112-765]
[From the U.S. Government Publishing Office]



                                                        S. Hrg. 112-765

 
                   SIMPLIFYING SECURITY: ENCOURAGING 
                      BETTER RETIREMENT DECISIONS

=======================================================================

                                HEARING

                                 OF THE

                    COMMITTEE ON HEALTH, EDUCATION,
                          LABOR, AND PENSIONS

                          UNITED STATES SENATE

                      ONE HUNDRED TWELFTH CONGRESS

                             FIRST SESSION

                                   ON

    EXAMINING SIMPLIFYING SECURITY, FOCUSING ON ENCOURAGING BETTER 
                          RETIREMENT DECISIONS

                               __________

                            FEBRUARY 3, 2011

                               __________

 Printed for the use of the Committee on Health, Education, Labor, and 
                                Pensions


      Available via the World Wide Web: http://www.gpo.gov/fdsys/




                  U.S. GOVERNMENT PRINTING OFFICE
80-703                    WASHINGTON : 2013
-----------------------------------------------------------------------
For sale by the Superintendent of Documents, U.S. Government Printing Office, 
http://bookstore.gpo.gov. For more information, contact the GPO Customer Contact Center, U.S. Government Printing Office. Phone 202ï¿½09512ï¿½091800, or 866ï¿½09512ï¿½091800 (toll-free). E-mail, [email protected].  


          COMMITTEE ON HEALTH, EDUCATION, LABOR, AND PENSIONS

                       TOM HARKIN, Iowa, Chairman

BARBARA A. MIKULSKI, Maryland        MICHAEL B. ENZI, Wyoming
JEFF BINGAMAN, New Mexico            LAMAR ALEXANDER, Tennessee
PATTY MURRAY, Washington             RICHARD BURR, North Carolina
BERNARD SANDERS (I), Vermont         JOHNNY ISAKSON, Georgia
ROBERT P. CASEY, JR., Pennsylvania   RAND PAUL, Kentucky
KAY R. HAGAN, North Carolina         ORRIN G. HATCH, Utah
JEFF MERKLEY, Oregon                 JOHN McCAIN, Arizona
AL FRANKEN, Minnesota                PAT ROBERTS, Kansas
MICHAEL F. BENNET, Colorado          LISA MURKOWSKI, Alaska
SHELDON WHITEHOUSE, Rhode Island     MARK KIRK, IIllinois          
RICHARD BLUMENTHAL, Connecticut      


           Pamela J. Smith, Staff Director and Chief Counsel

                 Lauren McFerran, Deputy Staff Director

              Frank Macchiarola, Republican Staff Director

                                  (ii)

  
?



                            C O N T E N T S

                               __________

                               STATEMENTS

                       THURSDAY, FEBRUARY 3, 2011

                                                                   Page

                           Committee Members

Harkin, Hon. Tom, Chairman, Committee on Health, Education, 
  Labor, and Pensions, opening statement.........................     1
Enzi, Hon. Michael B., a U.S. Senator from the State of Wyoming, 
  opening statement..............................................     3
Bingaman, Hon. Jeff, a U.S. Senator from the State of New Mexico.    48
    Prepared statement...........................................    49
Murkowski, Hon. Lisa, a U.S. Senator from the State of Alaska, 
  statement......................................................    51
Franken, Hon. Al, a U.S. Senator from the State of Minnesota, 
  statement......................................................    53
Blumenthal, Hon. Richard, a U.S. Senator from the State of 
  Connecticut, statement.........................................    54
Whitehouse, Hon. Sheldon, a U.S. Senator from the State of Rhode 
  Island, statement..............................................    56
Merkley, Hon. Jeff, a U.S. Senator from the State of Oregon, 
  statement......................................................    57
Isakson, Hon. Johnny, a U.S. Senator from the State of Georgia, 
  statement......................................................    65

                               Witnesses

Chatzky, Jean, Financial Journalist and Author, New York, NY.....     5
    Prepared statement...........................................     7
Lucas, Lori, Executive Member, the Defined Contribution 
  Institutional Investment Association, Washington, DC...........     8
    Prepared statement...........................................    10
Agnew, Julie, Ph.D., Associate Professor of Economics and 
  Finance, William and Mary Mason School of Business, 
  Williamsburg, VA...............................................    14
    Prepared statement...........................................    16
Brown, Jeffrey R., Ph.D., William G. Karnes Professor of Finance, 
  University of Illinois at Urbana--Champaign College of 
  Business, Champaign, IL........................................    37
    Prepared statement...........................................    39

                          ADDITIONAL MATERIAL

Statements, articles, publications, letters, etc.:
    Women's Institute for a Secure Retirement (WISER)............    65
    The American Council of Life Insurers........................    67
    Larry H. Goldbrum, General Counsel, The SPARK Institute, 
      Inc., letter...............................................    71

                                 (iii)

  


     SIMPLIFYING SECURITY: ENCOURAGING BETTER RETIREMENT DECISIONS

                              ----------                              


                       THURSDAY, FEBRUARY 3, 2011

                                       U.S. Senate,
       Committee on Health, Education, Labor, and Pensions,
                                                    Washington, DC.
    The committee met, pursuant to notice, at 2:03 p.m. in Room 
SD-430, Dirksen Senate Office Building, Hon. Tom Harkin, 
chairman of the committee, presiding.
    Present: Senators Harkin, Bingaman, Hagan, Merkley, 
Franken, Whitehouse, Blumenthal, Enzi, and Murkowski.

                  Opening Statement of Senator Harkin

    The Chairman. The Committee on Health, Education, Labor, 
and Pensions will please come to order.
    I want to welcome everyone to the latest in our series of 
hearings focusing on retirement security. This is our first 
hearing looking specifically at how to make retirement plans 
work better.
    There is no question that it's getting harder and harder 
for the average person to retire. Families are facing 
unprecedented challenges. Saving for retirement is just not an 
option for many. Wages have been stagnant for about 20 years, 
and people are working longer and harder than ever before, yet 
they still do not seem to meet the costs of basic everyday 
needs like education, transportation, and housing, let alone 
save enough to support them in their old age. Even people who 
want to prepare for retirement often find it difficult to do 
so. Over a quarter of workers do not have any meaningful 
retirement savings at all. Zero. And only a small percentage of 
people have a traditional pension.
    These days the vast majority of people with any retirement 
plan at all have a 401(k). But 401(k)s often do not provide 
real retirement security. They, of course, leave workers 
exposed to the vagaries of the market and do not necessarily 
provide workers with a guaranteed lifetime income stream like a 
traditional pension plan. That means families relying on a 
401(k) have to roll the dice and pray that they do not outlive 
their retirement savings.
    We've taken some important steps to improve the 401(k) 
system by requiring more transparency, but we still have a long 
way to go before the 401(k) system works for everyone. Just 
recently I heard from a carpenter who told me that when he 
tried to sign up for his plan, his employer handed him a list 
of investments two pages long and a 5-inch binder full of 
prospectuses. Well, if you're working all day, trying to raise 
a family, you don't have time to pour through all of that and 
try to figure out what to do. There has to be a way to make 
saving for retirement simpler.
    Automatic enrollment was a good first step. There's a 
considerable amount of evidence that people are more likely to 
participate if they are automatically enrolled. The Pension 
Protection Act of 2006, which we all worked on and Senator Enzi 
was very much involved in, helped encourage automatic 
enrollment by removing some of the barriers and giving 
employers some peace of mind. Now more and more plans are using 
automatic enrollment, and that has gotten more people saving.
    The question today is whether we can do more. Can we apply 
the lessons of automatic enrollment elsewhere? Can we do a 
better job getting people the information they need to make 
better financial decisions?
    One way to encourage people to boost savings is to give 
them an estimate of how much monthly retirement income a person 
can expect from their 401(k). Now, people already get that kind 
of estimate on their annual Social Security statement. I just 
got one several days ago. It tells you exactly how much you get 
when you retire. It's very helpful. Of course, I commend 
Senators Bingaman, Isakson and Kohl for the work they have 
already done on this issue.
    Another way to encourage people to save is to allow for 
more financial education, especially among young people just 
entering the workforce. Every day we see people coming up with 
new and innovative ways to educate people about personal 
finance. And when people are engaged, they tend to save more. 
One study found that 18 percent of people that use an online 
retirement calculator increase their contribution rate. Well, 
that's going to have a long-term positive effect. How can we 
promote that?
    As we look at ways to improve 401(k) plans, it's important 
to remember that making plans simpler and more automatic does 
not always mean that they are safer or more secure. Target-date 
funds are a good example. Those funds show considerable promise 
as an easy way for people to manage their retirement accounts. 
But the effects of the Great Recession highlighted that there 
is a still a lot that needs to be done to make target-date 
funds safe for workers and retirees.
    Going forward, any steps that we may take to make 401(k)s 
simpler must be accompanied by protections to insure that 
participants are being treated fairly and getting the best 
possible value. We also need to remember that a simpler 401(k) 
is not going to help the millions of American families barely 
scraping by. Those people deserve a secure retirement, too. And 
I plan to address the challenges they face and the need for 
improved access to the pension system in future hearings on 
this subject in this committee.
    Retirement issues have always been an area of great 
bipartisan interest, so there is a real opportunity to work 
together to improve retirement security for families all across 
America.
    I am confident the hearing today will give us all a lot to 
think about. I look forward to working with my colleagues to 
find practical solutions to solve this retirement crisis in 
America. I thank you all for being here today, and I will yield 
to Senator Enzi.

                       Statement of Senator Enzi

    Senator Enzi. Thank you, Mr. Chairman. It's my 
understanding that one of our witnesses is stuck in Chicago.
    The Chairman. That's right. We are going to have a video 
hookup for him.
    Senator Enzi.  That's a terrible place to be stuck.
    [Laughter.]
    The Chairman. I didn't say that, did I?
    [Laughter.]
    I go through Chicago all the time.
    Senator Enzi. Oh. I've never made it through yet, so I'll 
have to get some advice from you. But it's been over 2 years 
ago that you and I held some very successful hearings on the 
401(k) fee disclosure.
    The Chairman. That's right.
    Senator Enzi. At that time, the Department of Labor had 
issued a proposed regulation on how to disclose fees, and I 
believe that our hearing improved the outcome of the final 
regulations issued by the Department last year. That's why I'm 
grateful we're holding another hearing on the 401(k) system, to 
see what's working and what may need to be improved.
    One of the hallmarks of the Pension and Protection Act of 
2006 was the provision to allow companies to automatically 
enroll their employees in a 401(k) plan and to allow companies 
to match contributions. Statistics have shown that automatic 
enrollment is a tremendous success, with a great number of new 
employees being automatically enrolled. The surge took place 
from 2006 to 2009. But since then, the numbers leveled off. 
While some of the leveling off can be attributed to the 
economy, it may be that we just caught the easy fish and still 
haven't caught the hard ones. It appears that the large 
companies took advantage of automatic enrollment. However, 
automatic enrollment may have been more difficult for smaller 
sized companies to adopt. According to Fidelity Investments' 
analysis of 17,000 retirement plans, more than 50 percent of 
the companies with 5,000 workers or more adopted automatic 
enrollment, but only 15 percent of the companies with fewer 
than 500 employees adopted automatic enrollment of employees.
    A friend of mine, in Sheridan, who has multiple companies 
throughout the United States, has a 401(k) plan that he matches 
very generously for every employee, and he has tremendous 
success signing people up. But it's because part of their 
orientation as being part of the company is that if they don't 
put in the amount of money that it takes to get it matched, 
he's not sure they're smart enough to work for him. And people 
should take advantage of those things. I, being a former small 
businessman, my wife Diane and I had shoe stores in Wyoming, 
and consequently, I think we can do more to help small 
companies. I've done accounting for a number of small 
companies, and some had 401(k) plans, and some didn't. So, I'm 
interested in introducing legislation this spring that would 
simplify the 401(k) system even more for small business owners. 
Getting the small businesses and their employees into the 
system is a critical step toward ensuring a strong retirement 
for more people.
    Another key group of individuals who need to become 
invested is Generation Y, or, the Millenials, who are just 
entering the workforce for the very first time. All experts 
agree that having workers start investing early in their 
careers will save them from catch-up investments later in their 
lives. Hewitt just released a report on the 20-something 
generation, and they found that, due to lack of participation 
in defined contribution plans, low savings rates, and high 
rates of cash-out, 8 in 10 Generation Y workers will not meet 
their financial needs in retirement unless they significantly 
improve their savings and investing behaviors.
    Now, with tuition at an all-time high, Americans now owe 
more than $875 billion in student loans. I can sympathize with 
students entering the workforce trying to pay off their student 
loans, while they pay rent or buy a house, and starting a 
family, and then have to save for retirement as well. Many 
entering the workforce are unprepared for this new financial 
reality. I've also noted that a lot of them make more money 
than their parents did, but they're not sure what to do with it 
all. They know that their parents have a car and a boat and a 
house, and a snowmobile, and other things, and what they don't 
realize is that they accumulated those over time while they 
took care of some of their retirement things. And so, they run 
out and buy all those things, and then they get in financial 
trouble.
    I've been involved in financial literacy for a long time. 
When I was mayor, we had to find somebody that could provide 
financial literacy to these young people that were making so 
much money. The group that was most interested in doing it was 
the church. But people didn't see that as a relative place to 
go because they're always asking for money. Fortunately, the 
credit union stepped up and provided a program, and that had 
some credibility to it, and that's been expanded in the 
meantime. There's a Jump$tart program now in Wyoming and much 
of the United States that helps to provide that kind of advice 
to young people. It's a tremendous help. Dave Ramsey also has 
some courses that people on my staff have taken a look at, and 
it does help them to get out from under their credit card debt. 
I know of a couple of instances where they not only have done 
that, but they followed the whole plan. They have no debt, own 
their home, and have six months worth of finances in the bank. 
They're taking financial literacy very, very seriously. I have 
been sponsoring and passing legislation that would improve 
Federal Government literacy programs.
    But one of the concerns I have now is that for young 
workers, the best one, and the program they're most likely to 
hear about, or, hear little about, especially from the newer 
employer, is this 401(k) opportunity. That's because when they 
go to work there, they're dumped with this pile of papers that 
they have to make decisions on and wander through, not just on 
the 401(k), but all the other Federal forms that we force them 
to fill out as well. I think that takes away from the big 
decision they have to make about retirement.
    The people that are doing the plans are a little reluctant 
to do them because there is some liability that we placed on 
them now, too, because they have to help these people make the 
right decision, and nobody knows what the right decision is 
until after the market is done. They have to make all their 
decisions before the market. So, I do think there are some 
things that we can do, and I'm pleased that we have some 
experts that can give us some advice on what can be done to 
make these more workable for business, more workable for the 
employee, and more workable for a lifetime of security.
    Thank you, Mr. Chairman.
    The Chairman. Thank you, Senator Enzi. You're right. We do 
have a great panel of distinguished witnesses and experts.
    First we have Jean Chatzky, the financial editor for NBC 
Today. If she looks familiar, that's because you've been 
watching the Today Show. Ms. Chatzky will provide a general 
overview of retirement savings in America and focus on the fact 
that people do not save enough.
    Next we have Lori Lucas. She is an executive member of the 
Defined Contribution Institutional Investment Association, and 
is the executive vice president and Defined Contribution 
Practice Leader at Callan Associates. Ms. Lucas will summarize 
some of the research regarding automatic enrollment and 
escalation, and give some recommendations.
    Dr. Julie Agnew is an associate professor of Finance and 
Economics, and the co-director of the Center for 
Interdisciplinary Behavioral Finance Research at the William 
and Mary Mason School of Business. She is going to discuss the 
role investor psychology and financial literacy play in making 
retirement decisions.
    Finally, we'll hear, I hope by video hookup, Dr. Jeffrey 
Brown, the William K. Karnes Professor of Finance in the 
College of Business at the University of Illinois. Dr. Brown 
will discuss the ways to shift the way people think about 
retirement saving away from asset accumulation to a broader 
concept of retirement security. So, I hope that hookup works 
all right.
    We'll start with Jean Chatzky.
    Thank you very much.
    By the way, all of your statements will be made a part of 
the record in their entirely. We'll just go from left to right, 
starting with Ms. Chatzky. If you could just sum it up in 5, 7, 
8 minutes, something in that neighborhood, I'd appreciate it.
    Ms. Chatzky, welcome. Please proceed.

        STATEMENT OF JEAN CHATZKY, FINANCIAL JOURNALIST 
                    AND AUTHOR, NEW YORK, NY

    Ms. Chatzky. Thank you so much. Good afternoon, Mr. 
Chairman. I want to thank you and the members of the committee 
for taking the time to address this crucial issue.
    Magazine covers and television ads show us a consistent 
picture of retirement. They show us a couple lazing on a beach 
and another on a golf course. Unfortunately, for most Americans 
these are fantasies. Data from the Employee Benefits Research 
Institute shows us that even for good-earning Baby Boomers and 
Generation Xers, there is a 50 percent chance of running out of 
money in retirement. That means they're not going to have 
enough to pay for the basics, let alone added health care 
expenses that can run six figures, even more.
    According to the research, 4l percent of the people in the 
lowest 25 percent of American earners, the lowest quartile, 
were likely to run short of money after 10 years in retirement, 
and 57 percent after 20 years. Of course, those percentages 
continue to shrink as earnings increase, but 5 percent of the 
highest 25 percent of American earners are likely to run short 
of money after 10 years in retirement, and 13 percent after 20 
years. And I have to say, as I watch Willard Scott wish a happy 
birthday to what seems like more centenarians every single 
week, that is not a comfortable proposition.
    Fortunately, we now have at our fingertips other research 
that points the way toward solving this problem, or at least 
getting a jump on it. The passage of the Pension Protection Act 
in 2006 brought down those barriers for those employers who 
wanted to auto-enroll people, as you said, into their 
retirement plans, and it has been hugely successful. In 
companies that have automatic enrollment, 80 to 90 percent of 
people are in the company retirement plans. In companies that 
don't have it, only half that many people, particularly younger 
and lower income workers that you were talking about, 
participate. And 401(k) participation alone reduces the risk of 
running out of money to 20 percent. That's huge.
    But it's not enough. Going further to solve this problem, 
to encourage even more Americans to put more of their hard-
earned dollars away for tomorrow, is a matter of doing three 
things.
    First, using the incentives at your disposal to encourage 
more employers, particularly the small ones, to offer plans and 
to put an alternative in place for those that don't. Workplace 
retirement savings works because it's easy. By taking the money 
out of employees' hands before they have a chance to spend it, 
it's as if it was never there to begin with. For that reason, 
the Auto IRA proposal that was raised last fall needs to be 
revisited. By requiring employers who don't sponsor plans to 
auto-enroll workers into individual IRAs, you cross the first 
hurdle. You make sure individuals have retirement plans. Of 
course, employees will always have the right to opt out. But 
inertia will win, and they won't.
    Second, you need to encourage workers to save more. The 
financial community and the media have led workers astray when 
it comes to successfully achieving retirement savings goals. 
First, Americans were told that investment selection, that 
picking the right stocks and mutual funds, was the key to 
success. Next they were told it was all about asset allocation, 
deciding how much of your retirement pie you wanted to put in 
stocks and in bonds and in cash. Neither of these things solves 
the problem. The only thing that will get most Americans to a 
comfortable retirement nest egg is saving more money. I 
attached in my written testimony an analysis by Principal 
Financial that compares the three approaches. You should take a 
look, because it's eye-opening. You encourage saving more, 
again, by letting behavioral finance work its magic. 
Automatically escalating workers' contributions until they hit 
that maximum contribution levels is key because, again, we 
don't miss money when we don't see it in the first place.
    But the third component--educating workers--is also 
crucial. It also works. The SMarT savings program, an approach 
which is short for Save More TomorrowTM, developed by 
behavioral economists Richard Thaler of the University of 
Chicago and Shlomo Benartzi out of UCLA, the SmarT program is 
an auto-escalation program which requires annual contribution 
increases of 3 percent until you max out. It was recently 
offered, accompanied by financial counseling, to every employee 
at a company with 300 workers. One-hundred sixty of them took 
advantage, and after 3 years, the savings rate of these 
employees jumped from 3\1/2\ percent to almost 12 percent. It 
tripled. Other companies have seen even greater success.
    As Baby Boomers age, we will continue to see a shift in the 
message emanating from Wall Street. There will be more talk 
about annuitizing, managing retirement income, and making your 
money last. That's all well and good. But it's useless if we 
don't tackle the accumulation problem first. We need to make 
sure that Americans have enough money to begin with.
    Thank you so much.
    [The prepared statement of Ms. Chatzky follows:]

                   Prepared Statement of Jean Chatzky

                                SUMMARY

    Data from the Employee Benefits Research Institute shows us that 
even for good-earning Baby Boomers and Generation Xers, there's a 50 
percent chance of running out of money in retirement. Fortunately, we 
now have at our fingertips other research that points the way toward 
solving this problem: The passage of the Pension Protection Act in 
2006, brought down the barriers for those employers to auto-enroll 
people into their retirement plans. In companies that have automatic 
enrollment, 80 percent to 90 percent of people are in the company 
retirement plan. In companies that don't have it, half that many people 
are in. And 401(k) participation reduces the risk of running out of 
money to 20 percent. That's significant--but not enough. We need to do 
three things.
    First, use the incentives at your disposal to encourage more 
employers--particularly small ones--to offer plans. The Auto IRA 
proposed last fall should be revisited. By requiring employers who 
don't sponsor plans to auto-enroll workers into individual IRAs, you 
cross the first hurdle. You make sure individuals have retirement 
plans. Second, encourage workers to save more. A successful retirement 
does not depend on investment choice or asset allocation, it hinges on 
saving more money. (Analysis attached.) Automatically escalating 
workers contributions until they hit the maximum contribution levels is 
key. And third, couple both of these initiatives with education to 
explain to workers why they need to do the right thing.
    As Baby Boomers age, we will continue to see a shift in the message 
emanating from Wall Street. There will be more talk about annuitizing, 
managing retirement income, making your money last. It's useless if we 
don't tackle the accumulation problem first. We need to make sure 
Americans have enough money to begin with.
                                 ______
                                 
    Good afternoon. I want to thank the committee for taking the time 
to address this crucial issue. Magazine covers and TV ads show us a 
consistent picture of retirement. A couple lazing on the beach. Another 
on the golf course. Unfortunately, for most Americans these are 
fantasies. Data from the Employee Benefits Research Institute shows us 
that even for good-earning Baby Boomers and Generation Xers, there's a 
50 percent chance of running out of money in retirement. This means 
they're not going to have enough money to pay for the basics, let alone 
the added health care expenses that can run six-figures or more.
    According to the research, 41 percent of people in the lowest 25 
percent of American earners ($0--$11,700 a year) were likely to run 
short of money after 10 years in retirement, and 57 percent after 20 
years. Those percentages continued to shrink as earnings increased, but 
5 percent of the highest 25 percent of American earners ($72,000 and 
up) are likely to run short of money after 10 years in retirement and 
13 percent after 20 years. As I watch Willard Scott wish a happy 
birthday to what seems like more centenarians every week, that's not a 
comfortable proposition.
    Fortunately, we now have at our fingertips other research that 
points the way toward solving this problem. The passage of the Pension 
Protection Act in 2006, brought down the barriers for those employers 
who wanted to auto-enroll people into their retirement plans. It's been 
hugely successful. In companies that have automatic enrollment, 80 
percent to 90 percent of people are in the company retirement plan. In 
companies that don't have it, half that many people (particularly 
younger and lower income workers) are in. And 401(k) participation 
reduces the risk of running out of money to 20 percent. That's 
significant.
    But it is not enough. Going further to solve this problem--to 
encourage even more Americans to put more of their hard-earned dollars 
away for tomorrow is a matter of doing three things.
    First, use the incentives at your disposal to encourage more 
employers--particularly small ones--to offer plans. And put an 
alternative in place for those that don't. Workplace retirement savings 
works because it's easy. By taking the money out of employees' hands 
before they have the chance to spend it, it's as if it was never there 
to begin with. For that reason, the Auto IRA proposed last fall should 
be revisited. By requiring employers who don't sponsor plans to auto-
enroll workers into individual IRAs, you cross the first hurdle. You 
make sure individuals have retirement plans. Of course, employees will 
have the right to opt out. But inertia will win--and most won't.
    Second, encourage workers to save more. The financial community--
and the media--has led workers astray when it comes to successfully 
achieving retirement savings goals. First, Americans were told that 
investment selection, picking the right stocks and mutual funds, is the 
key to success. Next, they were told it was all about asset allocation, 
deciding how much of your pie to put in stocks and bonds and cash. 
Neither of these things is true. The only thing that will get most 
Americans to a comfortable retirement stash is saving more money. (I 
have attached an analysis by Principal Financial that compares the 
three approaches. It is eye-opening.) You do this, again, by letting 
behavioral finance work it's magic. Automatically escalating workers 
contributions until they hit the maximum contribution levels is key. We 
don't miss the money when we don't ever see it in the first place.

    [Note: Attachment(s) to this statement may be found at 
www.principal.
com/retirement/docs/other/h2317.pdf].

    But the third component--educating workers--is also crucial. And it 
works. The SMaRT savings program (an approach, short for Save More 
Tomorrow, developed by behavioral economists Richard Thaler of the 
University of Chicago and Shlomo Benartzi of UCLA) is an auto 
escalation program, which requires annual contribution increases of 3 
percent until you max out. It was recently offered--accompanied by 
financial counseling--to every employee at a company of 300 workers. 
More than half, 160, took the bait. And after 3 years, the savings rate 
of these employees had gone up from 3.5 percent to 11.6 percent. It 
tripled. Other companies have seen even greater success.
    As Baby Boomers age, we will continue to see a shift in the message 
emanating from Wall Street. There will be more talk about annuitizing, 
managing retirement income, making your money last. That's all well and 
good. But it's useless if we don't tackle the accumulation problem 
first. We need to make sure Americans have enough money to begin with.
    Thank you.

    The Chairman. Thank you very much, Ms. Chatzky. Now we will 
turn to Lori Lucas.
    Ms. Lucas, welcome. Please proceed.

        STATEMENT OF LORI LUCAS, EXECUTIVE MEMBER, THE 
  DEFINED CONTRIBUTION INSTITUTIONAL INVESTMENT ASSOCIATION, 
                         WASHINGTON, DC

    Ms. Lucas. Thank you. Good afternoon, Mr. Chairman and 
members of the committee.
    Thank you for this opportunity to testify on this very 
important topic.
    My name is Lori Lucas, and I'm the Defined Contribution 
Practice Leader at Callan Associates, one of the largest 
investment consulting firms in the country. I am also the 
executive chair of DCIIA's research committee, that's the 
Defined Contribution Institutional Investment Association, and 
they are a non-profit organization dedicated to enhancing the 
retirement security of American workers.
    Like Jean said, the passage of the 2006 Pension Protection 
Act provided valuable safe harbors that allowed plan sponsors 
to more freely offer automatic enrollment and automatic 
contribution escalation in their 401(k) plans and other DC 
plans. That was a huge way that plan sponsors saw the ability 
to increase the prevalence of these features in their plans, so 
that going from a very nominal amount of plans offering them 
prior to the Pension Protection Act, we now see that about half 
of DC plans offer automatic enrollment and automatic 
contribution escalation.
    Research shows that these auto features greatly enhance 
saving levels for American workers. They are very effective in 
getting people to save more. However, we can do more with 
automatic contribution escalation and automatic enrollment. 
That's because what we're finding is that they tend to be very 
conservatively implemented by plan sponsors. To give you an 
example, they may have as their initial contribution rate under 
automatic enrollment a mere 3 percent or 4 percent of pay as 
the initial deferral rate. Then they might automatically 
escalate people up to just 6 percent of pay. Because of the 
inertia among plan participants, participants are likely to 
stay at these levels for many years and not increase them on 
their own. To put that into context, the typical financial 
planner will tell you that you need to save between 10 and 15 
percent of pay every year during your working life in order to 
have sufficient income at retirement. You can see the 
disconnect there, and the need to improve how these are being 
implemented.
    However, a recent EBRI-DCIIA study showed that just by 
tweaking the way that automatic enrollment and automatic 
escalation are implemented can have a very profound and 
dramatic increase on retirement income savings levels. What 
DCIIA found was that by increasing the cap on automatic 
contribution escalation to levels of, say, 15 percent, and 
increasing the initial deferral in automatic enrollment to, 
say, 6 percent, the majority of workers were able to save 
enough to replace 80 percent or more of income in retirement. 
This is a pretty dramatic increase and really shows the 
importance of robust implementation of these auto features.
    Policymakers can help. How they can help, first of all, is 
by revisiting the safe harbor for non-discrimination testing on 
automatic enrollment that was implemented in the Pension 
Protection Act. This safe harbor requires that the initial 
deferral under automatic enrollment start at at least 3 percent 
of pay. We ask that that be increased to at least 6 percent of 
pay to get people started on the track faster. We also note 
that the automatic contribution escalation cap under the safe 
harbor is 10 percent. We ask that that be increased to at least 
15 percent, noting that when people actually choose on their 
own what they want their cap for automatic contribution 
escalation to be, that they tend to choose at least 15 percent 
or more. And remember, people can always opt out.
    The second thing we ask is that policymakers make it clear 
to plan sponsors that it is a good thing to robustly implement 
automatic features, albeit in a prudent and reasonable way, but 
to make it a robust implementation. Unfortunately, what we're 
seeing happening is that plan sponsors are looking at the non-
discrimination testing safe harbor requirements and inferring, 
even if they're not doing the non-discrimination testing safe 
harbor, that those are the proper way, or, those are the proper 
defaults that they should be using under automatic enrollment 
and under automatic contribution escalation, and that's one of 
the reasons these are being so conservatively implemented. We 
ask that it be clear that there's no fiduciary safe harbor, or 
no fiduciary guidance implied outside of the non-discrimination 
testing safe harbor for those that use automatic enrollment and 
automatic contribution escalation.
    Finally, we ask for a fiduciary safe harbor for monthly 
income projections in retirement, so that people can actually 
see how much their savings will translate into when they get to 
retirement. We believe that this will help them to save at 
higher levels and discourage opt outs from these auto programs.
    In the past, participants might have relied on the stock 
market to fill in the gap of poor savings habits. Certainly the 
last decade has shown us, if nothing else, that the stock 
market will not bail us out if we're not saving enough and 
we're not saving early.
    The auto features are a tremendous boon for retirement 
savings, but they really do need to be properly implemented. 
What we ask is that the proper implementation be taken into 
consideration as a key goal for policymakers.
    Thank you for this, the opportunity to testify.
    [The prepared statement of Ms. Lucas follows:]

                    Prepared Statement of Lori Lucas

                                SUMMARY

    Since the 2006 passage of the Pension Protection Act (PPA), which 
provided valuable guidance and safe harbors to plan sponsors seeking to 
implement automatic enrollment and automatic contribution escalation, 
prevalence of these features within 401(k) plans has increased 
dramatically.
    Research finds that such features greatly improve the expected 
level of savings that workers can achieve in retirement. However, 
research also concludes that many plans implement auto features in a 
way that is too conservative--reducing the probability that workers 
will succeed in saving enough to retire comfortably.
    A study by EBRI and DCIIA finds that more robust implementation of 
auto features--such as increasing the automatic contribution escalation 
rate cap--can dramatically improve savings outcomes for American 
workers. Yet, policies such as the PPA non-discrimination testing safe 
harbor, actually discourage plan sponsors from robust implementation, 
and in fact encourage them to be overly conservative with their 
automatic contribution escalation rate caps and other auto features.
    Policymakers can help by:

     Revisiting the PPA non-discrimination safe harbor to:

          increase the maximum allowed cap from 10 percent to a 
        higher level, or eliminate it altogether so that plan sponsors 
        can choose their own cap.
          start the automatic enrollment deferral at 6 percent 
        immediately, as opposed to starting it at 3 percent and having 
        it escalate to 6 percent.

     Providing guidance explaining that there is no 
``inferred'' safe harbor for non-safe harbor plans and that the 
deferral amounts for the non-discrimination safe harbor should not be 
viewed as fiduciary guidance.

    Policymakers could also explore ways to incentivize plan sponsors 
to adopt auto features: One way is to ease the company contribution 
requirements under the automatic enrollment non-discrimination testing 
safe harbor.
    Finally, policymakers may wish to consider a fiduciary safe harbor 
that would support plan sponsors in educating participants on how their 
savings translates into expected income in retirement. This could 
reduce opt-outs and increase savings rates.

                              INTRODUCTION

    Good morning Mr. Chairman and members of the committee. Thank you 
for the opportunity to testify at this important hearing.
    My name is Lori Lucas and I am the Defined Contribution Practice 
Leader at Callan Associates--one of the largest independently owned 
investment consulting firms in the country. Our client services include 
strategic planning, plan implementation, monitoring and evaluation, and 
education and research for institutional investors such as sponsors of 
pension and DC plans. We were founded in 1973 and we have $1 trillion 
in assets under advisement.
    I am also the executive chair of the Research and Surveys Committee 
of the Defined Contribution Institutional Investment Association 
(DCIIA). Founded in 2010, DCIIA is a non-profit association dedicated 
to enhancing the retirement security of American workers. DCIIA fosters 
a dialogue among the leaders of the defined contribution community 
including investment managers, consultants, law firms, recordkeepers, 
insurance companies, plan sponsors and others committed to the best 
interests of plan participants.
    In today's testimony I will address the following topics:

     How automatic features are being implemented in DC plans.
     How current implementation of auto features is impacting 
American workers' retirement income adequacy.
     How we can raise the bar and dramatically improve outcomes 
through the use of auto features.

       PREVALENCE AND IMPLEMENTATION OF AUTO FEATURES IN DC PLANS

    Prior to the Pension Protection Act (PPA) of 2006, which provided 
valuable safe harbors to plan sponsors seeking to implement automatic 
enrollment and automatic contribution escalation, just one in five (19 
percent) 401(k) plans automatically enrolled employees. For the 
majority of those plans, the money market or stable value fund was the 
default investment fund, and participants were commonly defaulted into 
the plan at just 2 percent or 3 percent of pay. Meanwhile, just 9 
percent of plans offered automatic contribution escalation prior to the 
2006 passage of the PPA.\1\
---------------------------------------------------------------------------
    \1\ Hewitt Associates. 2005 Trends and Experiences in 401(k) Plans 
Survey.
---------------------------------------------------------------------------
    Today, half of DC plans automatically enroll participants. In most 
cases, new hires are automatically enrolled, although 4 in 10 large 
plans have done a one-time automatic enrollment sweep for existing 
employees. Today, asset allocation-type vehicles are the most common 
default investment fund by far, largely as a result of the PPA's 
qualified default investment alternative (QDIA) provisions. However, 
the common default contribution rate remains modest at 3 percent to 4 
percent of pay.
    Also, currently nearly half of DC plans offer automatic 
contribution escalation. The majority does not link automatic 
contribution escalation to automatic enrollment, but offers it as an 
opt-in option. Most plans with automatic contribution escalation as a 
default increase participant contributions by just 1 percent of pay 
annually, and cap annual contributions at low rates, such as 6 
percent--which might be the company's match threshold.\2\
---------------------------------------------------------------------------
    \2\ Callan Associates. 2011 Trends in DC Plans Survey. Preliminary 
results of 2011 DCIIA Auto Features Survey.
---------------------------------------------------------------------------
    According to the preliminary results of a 2011 DCIIA survey of more 
than 100 plan sponsors, there are many reasons that plan sponsors do 
not offer automatic enrollment including: it is seen as unnecessary 
because plan participation is already sufficiently high, it doesn't fit 
into the plan's corporate culture because it is too paternalistic, it 
is inappropriate in the current economic environment, and it is too 
costly from a company matching perspective. Only a small percentage of 
plan sponsors who do not offer automatic enrollment are very likely to 
do so within the next 12 months.
    Those plan sponsors who do not offer contribution escalation either 
haven't considered it, find it too paternalistic, or find it 
inappropriate in the current economic and legal/regulatory environment. 
Plan sponsors who do not offer contribution escalation say that 
increased regulatory/legislation changes/or support would encourage 
them to do so, such as by having the safe harbor rules extended to 
higher levels of auto escalation. Otherwise, those who don't currently 
offer automatic contribution escalation are not very likely to do so in 
the next 12 months. Those who do not offer automatic contribution 
escalation as a default also cite the fact that their employees would 
be upset if they increased rates automatically. Others mention that it 
is too paternalistic or that they haven't really considered it.
    Today, I would like to make the case that automatic enrollment and 
automatic contribution escalation are two DC plan features that can 
dramatically improve the retirement income adequacy of American workers 
in DC plans. However, these features must be more widely used by plan 
sponsors and more robustly implemented in order to have the necessary 
impact on workers' retirement savings.

         IMPACT OF AUTO FEATURES ON RETIREMENT INCOME ADEQUACY 
                          OF AMERICAN WORKERS

    Research by Jack VanDerhei of the Employee Benefit Research 
Institute (EBRI) in 2010 simulated the savings differences generated by 
plans with automatic enrollment versus voluntary enrollment by 
comparing large 401(k) plans given actual plan design parameters based 
on participant data from EBRI's 401(k) database. The analysis looked at 
all workers, not just those eligible for 401(k) plans. According to the 
analysis, when workers aged 25 to 29 under voluntary enrollment are 
compared to those under automatic enrollment of the same age cohort, 
the difference in projected median 401(k) balances is four times higher 
in the auto-enrolled group. Voluntary enrollment was at one and a half 
times final earnings whereas automatic enrollment resulted in six times 
final earnings. This shows the importance of automatic enrollment in 
improving retirement savings levels of workers over their full career.
    EBRI and DCIIA then collaborated on a project analyzing how the 
probability of reaching a ``successful'' retirement income level 
changes with different 401(k) plan design variables and assumptions. 
While the definition of success using this simulation model can be 
quite complex, the analysis starts out with a very simple definition 
for this application: namely, a 401(k) accumulation large enough that, 
when combined with the worker-specific benefits projected under Social 
Security, will provide a total real replacement rate of 80 percent.
    In other words, for purposes of this analysis, we will define an 80 
percent income replacement rate as ``success.'' Eighty percent is in 
the typical range of replacement rates suggested by many financial 
consultants. Importantly, this new analysis looks at workers eligible 
for 401(k) plan participation over 30 to 40 years--not all workers 
regardless of eligibility.
    The analysis found that in the base case--that is, the way that 
automatic enrollment and automatic contribution escalation are 
implemented across thousands of DC plans--the probability of replacing 
80 percent of income in retirement for workers who spend a full career 
in the DC system is 45.7 percent for low-income workers and 27 percent 
for high-income workers. In other words, these statistics also show 
that the current implementation of auto features is not likely to 
generate sufficient retirement for most workers.
    However, when the implementation of auto features was more robust, 
coupled with improvements in employee behavior (described below), the 
picture changes. The analysis assumed the following changes to the way 
auto features are implemented in DC plans:

     Increase in the contribution rate cap (e.g., from 6 
percent to 9 percent, 12 percent or 15 percent of compensation).
     Increase in the annual contribution rate change (2 percent 
vs. 1 percent of compensation).
     Successfully educate employees so that they don't opt out 
of the automatic escalation program.
     Encourage employees to remember and implement their 
previous level of contributions and not merely accept the new low 
default-contribution rate under automatic enrollment when they change 
employers.

    In the best-case scenario--when all of these positive changes were 
made to auto features and implementation was robust--the probability of 
success increased dramatically. In fact, for the lowest quartile income 
level, the probability of replacing at least 80 percent of pre-
retirement income increased 33.5 percentage points from 45.7 percent to 
79.2 percent. For other quartiles, the probability improvement was 
similar. In my experience, there are few DC plan feature changes that 
can result in such dramatic improvements in retirement income adequacy.
    The results essentially reflect the fact that when auto features 
are implemented conservatively--such as with a low initial contribution 
default, a small annual increase, and a low cap on contributions--
participants are not prone to override these defaults, instead 
remaining with them for many years. This type of participant inertia 
has been well-documented for over a decade by researchers such as 
Brigitte Madrian and David Laibson of Harvard University. Even 
employees who might have participated more robustly under voluntary 
enrollment (such as with a 7 percent to 8 percent initial contribution 
to the plan) are likely, according to this behavioral research, to 
remain with the auto features' less robust defaults, resulting in low 
quality participation. As Choi, et al. concluded in their paper, 
``Saving for the Path of Least Resistance,'' ``sophisticated employers 
should choose their plan defaults carefully, since these defaults will 
strongly influence the retirement preparation of their employees.'' \3\
---------------------------------------------------------------------------
    \3\ Saving For Retirement on the Path of Least Resistance by James 
J. Choi Harvard University; David Laibson Harvard University and NBER; 
Brigitte C. Madrian University of Chicago and NBER; Andrew Metrick 
University of Pennsylvania and NBER; Originally prepared for Tax Policy 
and the Economy 2001 under the title ``Defined Contribution Pensions: 
Plan Rules, Participant Choices, and the Path of Least Resistance'' 
Revised in 2004 to include additional data and analysis.
---------------------------------------------------------------------------
       RAISING THE BAR ON THE USAGE OF AUTO FEATURES IN DC PLANS

    Given these results, why do plan sponsors implement automatic 
features conservatively when it comes to contribution levels? The 
reasons include:

    (1) Desire to minimize opt-outs: plan sponsors widely believe that 
more modest contribution rate defaults minimize opt-outs, and encourage 
employees to remain in the plan under automatic enrollment and in the 
program under automatic contribution escalation.
    (2) Cost: more aggressive defaults (e.g., escalating deferrals at a 
2 percent rather than a 1 percent rate; or defaulting at a higher 
initial contribution rate under automatic enrollment) may result in 
increased matching costs. This can be difficult for plan sponsors to 
support, especially in harsh economic times.
    (3) Safe harbor effect: even plan sponsors who are not seeking a 
non-discrimination testing safe harbor under the PPA may infer that it 
is more prudent from a fiduciary perspective to adopt the QDIA safe 
harbor for required defaults. Currently, these defaults are 
conservative when it comes to deferral rates.

    The last consideration is one of particular note for policymakers. 
Plan sponsors are as subject to behavioral biases as any other 
individual. It is my experience and that of other DCIIA members that 
the signals being sent by the defaults, which are used in the automatic 
enrollment non-discrimination testing safe harbor, are influencing plan 
sponsor decisions when it comes to the implementation of auto features 
even for non-safe harbor plans. The safe harbor requires that automatic 
enrollment start at at least 3 percent and increase to at least 6 
percent over 4 years. The maximum allowed cap under the safe harbor is 
10 percent. It is important to note that the EBRI/DCIIA study found 
that the single most important factor in improving retirement income 
adequacy through more robust auto features was raising the automatic 
contribution escalation cap. At a minimum, guidance should be given to 
explain that there is no ``inferred'' safe harbor for non-safe harbor 
plans and that the deferral amounts for the non-discrimination safe 
harbor should not be viewed as fiduciary guidance.
    Ideally, the safe harbor cap should be revisited, increasing the 
maximum allowed cap from 10 percent to a higher level, or eliminating 
it altogether so that plan sponsors can choose their own cap. 
Additional, the automatic enrollment deferral should start at 6 percent 
immediately, as opposed to starting it at 3 percent and having it 
escalate to 6 percent.
    As mentioned, a key reason that some plan sponsors do not implement 
automatic enrollment at a higher rate (or at all), and do not 
incorporate automatic contribution escalation aggressively (or at all) 
is the cost associated with matching contributions. Therefore, 
policymakers may also wish to explore ways to incentivize more robust 
implementation of these features. One way is to ease the company 
contribution requirements under the automatic enrollment non-
discrimination testing safe harbor.
    Finally, it is important to educate plan sponsors about likely opt-
out rates under various default deferral scenarios. Namely, there is no 
empirical evidence that the average plan experiences a higher opt-out 
rate when the default deferral level is 6 percent than when it is 3 
percent. Because automatic contribution escalation is still relatively 
new and not yet widely adopted, we don't have enough empirical evidence 
that would confirm or refute the notion that opt-outs are likely to 
increase with more robust caps and higher rates. However, most initial 
indications are that these design features have little to no impact on 
opt-out rates. Further, research shows that when participants do 
proactively choose their own automatic contribution escalation maximum 
cap, it most commonly is 15 percent or higher.\4\
---------------------------------------------------------------------------
    \4\ Hewitt Associates. ``Improving Defined Contribution Plan 
Utilization through Retirement IMPACT.'' September 2005.
---------------------------------------------------------------------------
    Opt outs can also be mitigated by educating employees on the value 
of high retirement savings rates. One way to do this is to show workers 
what their savings may translate to in monthly retirement income. Many 
recordkeepers already provide monthly retirement income projections on 
DC participant Web sites and on statements. Some also even provide 
``gap'' analysis--that is, the amount of additional savings plan 
participants need to achieve in order to replace sufficient income in 
retirement. Policymakers can encourage the use of such projections by 
providing a fiduciary safe harbor for plan sponsors.

                               CONCLUSION

    In the past, DC participants--and plan sponsors--may have relied on 
the stock market to fill in the gap of workers' low savings and help 
them generate a sufficient 401(k) retirement nest egg. However, the 
last few years have shown that the market cannot be expected to ``bail 
out'' workers who do not save enough. Indeed, a recent Callan 
Associates study showed that the annualized total returns experienced 
by DC plan participants since early 2006 has been 0.11 percent: 
virtually all of the growth in participant balances over that time came 
from plan sponsor and participant contributions.\5\ It follows then, 
that to ensure retirement income security for workers, plan sponsors 
must commit either to contributing more or to finding ways of 
increasing participant savings.
---------------------------------------------------------------------------
    \5\ Callan Associates. Callan DC IndexTM. June 2010.
---------------------------------------------------------------------------
    The EBRI/DCIIA study demonstrates that automatic enrollment and 
automatic contribution escalation provide a good starting point to 
improve worker behavior with regards to savings. However, insufficient 
attention has been given to ensuring that plan defaults lead to robust 
outcomes from a retirement income adequacy standpoint. The good news is 
that much can be done from a plan sponsor, policymaker and provider 
perspective to facilitate positive outcomes within the context of the 
existing framework of automatic enrollment and automatic contribution 
escalation. Thoughtful plan design and communication can materially 
alter the long-term savings levels of millions of Americans. In 
contrast, the alternative--plan design and communication that do not 
consider long-term income replacement ramifications--may have painful 
long-term social and economic consequences when it comes to American's 
retirement security.

    [Editor's Note: Due to the high cost of printing, previously 
published materials are not reprinted in the hearing record. Appendix 
materials ``The Impact of Auto-Enrollment and Automatic Contribution 
Escalation on Retirement Income Adequacy'' may be found at http://
www.ebri.org/pdf/briefspdf/EBRI_IB_011-2010_No349-EBRI-DCIIA.pdf and 
``Raising the Bar: Pumping Up Retirement Savings'' may be found at 
http://www.dciia.org/info/publications/Documents/DCIIA%20rESEARCH%20.]

    The Chairman. Thank you, Ms. Lucas.
    Now we turn to Dr. Agnew.
    Dr. Agnew, welcome. Please proceed.

    STATEMENT OF JULIE AGNEW, Ph.D., ASSOCIATE PROFESSOR OF 
    ECONOMICS AND FINANCE, WILLIAM AND MARY MASON SCHOOL OF 
                    BUSINESS, WASHINGTON, DC

    Ms. Agnew. Mr. Chairman and members of the committee, thank 
you for the opportunity to testify in front of you today. It's 
an honor to appear in front of this committee.
    Today the goal of my testimony is to share with you 
findings from recent research that demonstrates the clear role 
investor psychology and financial literacy plays in retirement 
decisions, as well as highlight ways, in light of these 
results, that we might improve the way people make decisions.
    As the committee is well aware, and clearly, from the 
testimony that's come before me, research has proven that 
automatic features in retirement plans work. The success of 
these features is also proof that investor psychology matters. 
Unfortunately, as automation in plans becomes more widespread, 
plan sponsors and policymakers may come to view plan 
communications and financial literacy programs generally as not 
needed and believe those who opt out of these automatic 
features, that they do so for informed reasons. In my testimony 
today I will highlight research that suggests just the 
opposite, and I'll argue for the need for more effective 
financial education programs that begin early and continue 
through life, as well as the need for simple communication 
materials that by design are easy to understand and accessible 
to individuals--and this is very important--who have limited 
interest in finance, insufficient financial knowledge, nor the 
time to devote to investment decisions.
    Speaking to financial education, the research suggests that 
Americans may have limited financial knowledge. Numerous 
academic studies have shown that individuals do not understand 
basic financial concepts. Even more worrisome is that the 
research suggests that those with the most limited financial 
knowledge are the least aware of their deficiency, so they may 
not even seek advice when they need it. Furthermore, additional 
studies show that vulnerable groups, such as those with low 
income, low education, and women, are more likely to fall in 
this category. This is a concern, as the pension landscape in 
the United States continues to shift toward the defined 
contribution world and the responsibility to make financial 
decisions is increasingly placed on the individual. How can we 
expect individuals to make sound decisions when they do not 
understand their investment choices, nor appreciate the need to 
save?
    Yet, it's not just general literacy that's important. Many 
participants simply do not understand the features in their 
plan. We were curious why individuals might quit an automatic 
enrollment plan, and we surveyed employees from two different 
plans. Interestingly, we found 18 percent of those who had quit 
thought that they were participating, even though they made 
that active choice. And 8 percent were not sure of their 
status. Moreover, we also find that those who were, who quit 
were more likely to not understand that they had a plan match. 
Thus, plan sponsors must clearly explain the benefits offered 
to participants and non-participants, and periodically remind 
all employees of the personal choices they have made.
    When communicating with individuals or designing choices 
offered in plans, materials from plan sponsors and government 
agencies must be kept simple and engaging, and the set of 
choices limited. Through my work with CIBFR at the Mason School 
of Business, it's clear from the focus groups we have held that 
retirement-related decisions and understanding financial 
products is overwhelming for many, and related to a high level 
of anxiety and stress. When individuals become overwhelmed or 
lack sufficient knowledge to make a decision, they can easily 
experience what's called information overload. When individuals 
experience information overload, it can impair their judgment. 
We have found individuals with low financial literacy typically 
are more likely to experience information overload. In 
addition, I'd like, while my testimony goes into detail about 
information overload, to highlight two additional benefits for 
limiting this.
    First, we find that people experiencing less information 
overload are more confident with their decisions when they're 
made. Second, regardless of the financial outcome, they're more 
satisfied with their choice. This is a worth outcome in itself. 
Finally, while automatic enrollment is a success, we should not 
believe that those that quit these plans are doing it for fully 
informed reasons. As mentioned earlier, these individuals might 
not understand the features of the plan. We have also found 
that those that quit tend to not trust financial institutions. 
Given recent market events, this is certainly not irrational. 
But perhaps a better understanding of how their plans work 
would reduce the mistrust attributable to simple lack of 
literacy.
    In closing, recognizing the psychology of investing has led 
to useful changes in plan design. This research is important 
and must be continued. However, I also believe there needs to 
be a better job at integrating financial education into the 
daily lives of Americans at an early age, and at points where 
they're making important financial decisions. Financial experts 
should be used to make sure that the correct lessons are 
taught, and marketing experts should be involved so that people 
actually listen and are engaged in the message. We also must 
test to make sure these methods are effective, because we have 
too many examples today of programs that simply do not work.
    [The prepared statement of Ms. Agnew follows:]

              Prepared Statement of Julie Agnew, Ph.D.\1\
---------------------------------------------------------------------------
    \1\ Much of this testimony is based on collaborative works with 
Lisa Szykman, Steve Utkus and Jean Young funded through grants from the 
Boston College Center for Retirement Research, the Boston College 
Center for Financial Literacy, FINRA Investor Education Foundation and 
the Social Security Administration. All errors and opinions are my own 
and do not represent the views of the Social Security Administration, 
FINRA nor the two centers at Boston College.
---------------------------------------------------------------------------
    Chairman Harkin, Ranking Member Enzi and members of the committee, 
thank you for inviting me to testify. It is an honor to appear before 
this committee. Today, the goal of my testimony is to share with you 
the findings of recent academic research that demonstrates the clear 
role investor psychology and financial literacy plays in retirement 
decisionmaking, as well as highlight for you ways, in light of these 
results, that we might improve the way people make decisions.
    As the committee is well aware, research has proven that automatic 
features in retirement plans work. The success of these features is 
also proof that investor psychology matters or else these design 
changes would be ineffective. Unfortunately, as ``automation'' in plans 
becomes more widespread, plan sponsors and policymakers may come to 
view plan communications and financial literacy programs generally as 
superfluous, and that those who opt-out of the automated features opt-
out because they are simply informed individuals making calculated 
choices about their future. In my testimony today, I will highlight 
research that suggests just the opposite and I will argue for the need 
for more effective financial education programs that begin early and 
continue through life, as well as the need for simple communication 
materials that by design are easy to understand and accessible to 
individuals who have limited interest in finance, insufficient 
financial knowledge and/or time to devote to investment decisions.
    Speaking to financial education, the research suggests that 
Americans today have limited financial knowledge. Numerous academic 
studies have shown that individuals do not understand basic financial 
concepts. Even more worrisome is that research suggests that those with 
the most limited knowledge may be unaware of their deficiencies and 
therefore may not seek or even realize they need assistance. 
Furthermore, additional studies show that vulnerable groups, such as 
those with low incomes, limited education, and women, are most likely 
to fall into this category and those in this category are more likely 
to succumb to behavioral biases. This is a concern as the pension 
landscape in the United States continues to shift towards a defined 
contribution world and the responsibility to make financial decisions 
is increasingly placed on the individual. How can we expect individuals 
to make sound decisions when they do not understand their investment 
choices nor appreciate the need to save?
    Yet it is not just general literacy that is important, participants 
may be failing to participate because they do not understand the 
features offered in their plan. We were curious about why individuals 
might quit an automatic enrollment plan, and so we surveyed employees 
in two different plans. Interestingly, we found that 18 percent of 
those who had quit did not realize that they were not participating 
despite making this active choice and 8 percent were not sure of their 
status. Moreover, we also found that those who quit were more likely 
not to know that their plan offered a match. Thus, plan sponsors must 
clearly explain the benefits of their plan to both non-participants and 
participants and must periodically remind all employees of the personal 
choices they have made.
    When communicating with individuals or designing the choices 
offered in plans, materials from plan sponsors and government agencies 
must be kept simple and engaging and the set of choices limited. 
Through my work with the Center for Interdisciplinary Behavioral 
Finance Research at the Mason School of Business, it is clear from the 
focus groups we have run that making retirement-related decisions and 
understanding financial products is overwhelming for many and is often 
associated with high levels of stress and anxiety. When individuals 
become overwhelmed or lack sufficient knowledge to make a decision, 
they can easily experience what we call ``information overload.'' When 
individuals experience information overload, it can impair their 
judgment by causing them to limit their research related to the 
decision, rely on simple rules of thumb or resign themselves to 
passively accept the default as it represents for them ``the path of 
least resistance.'' We have found individuals with low financial 
literacy typically are more likely to experience information overload. 
More about this can be found in my written testimony but I would like 
to highlight two additional benefits of limiting information overload 
beyond helping people make more informed decisions. First, we find that 
those experiencing less information overload are more confident with 
their decisions when they are made and, second, regardless of the 
financial outcome they tend to be more satisfied with their choice. 
This is a worthy outcome in itself.
    Finally, while automatic enrollment is a success, we should not 
believe that those who quit are always individuals making fully 
informed decisions. As mentioned earlier, these individuals might not 
understand the features of the plan. We have also found that those who 
quit tend not to trust financial institutions. Given recent market 
events, this is certainly not irrational, but perhaps a better 
understanding of how their plans work and their asset choices would 
reduce the mistrust attributable to simple lack of financial literacy.
    In closing, recognizing the psychology of investing has led to 
useful changes in plan design. This research is important and must be 
continued. However, I also believe that more needs to be done to better 
integrate financial education into the daily lives of Americans 
starting at an early age and at points where important financial 
decisions are being made. Financial experts should be used to make sure 
that the correct lessons are being taught and marketing experts should 
be involved so that people actually listen and are engaged in the 
message. We also must test to make sure these methods are effective, 
because we have too many examples today of programs that do not work.
    The remainder of my testimony elaborates further on these comments.

            INVESTOR PSYCHOLOGY AND RETIREMENT DECISIONS \2\

---------------------------------------------------------------------------
    \2\ A more comprehensive overview of this growing research area can 
be found in the book Behavioral Finance: Investors, Corporations and 
Markets (2010). The full citation can be found in the reference 
section. This section summarizes and provides direct excerpts from the 
one chapter in the book. Please refer to this chapter in the appendix 
for more details.
---------------------------------------------------------------------------
    Over the past 10 years, administrative data from 401(k) plans have 
provided academics a rich and fruitful context for investigating 
behavioral finance theories. This growing area of research has enhanced 
our understanding of the psychology of investing, provided substantial 
support for various theories, and led to significant changes in 
retirement plan design that have improved overall savings outcomes.
    This section provides a high level overview of some of the research 
findings in the area. I highlight several studies that relate to four 
important retirement decisions. Those decisions are whether or not to 
participate in a plan, how much to contribute to a plan, how to 
allocate and trade assets and what to do during the distribution phase. 
While this summary is not at all comprehensive, the intent is to 
convince the reader by the end of this section that investor psychology 
should not be ignored when discussing retirement decisionmaking or 
making policy. For those interested in more details, the appendix 
includes a recently published book chapter with a more complete 
overview.

Participation

    Brigitte Madrian and David Shea's (2001) seminal study on 401(k) 
participation led to widespread changes in plan design and is one of 
the best examples of how applying behavioral finance research can 
improve financial outcomes.\3\ These authors analyze one 401(k) plan 
transitioning from a voluntary (opt-in) enrollment arrangement to an 
automatic (opt-out) enrollment arrangement. According to rational-
choice, this change in enrollment method should not affect 
participation levels if individuals have well-defined preferences 
because a person will always optimize and select the best option 
(Johnson and Goldstein, 2003). Contrary to this expectation, the 
authors find participation levels for employees at similar points in 
job tenure increase significantly when automatic enrollment is 
introduced, from 37 percent to 86 percent. In addition, participation 
rates between demographic groups equalize.\4\ This dramatic increase in 
participation may be due to, among other things, the tendency for 
individuals to procrastinate or because employees view the default 
choice as an implicit endorsement from the company.
---------------------------------------------------------------------------
    \3\ For those plans not willing to switch to automatic enrollment, 
researchers understanding behavioral finance have devised new 
approaches that work with voluntary schemes. They include active choice 
(Carroll, Choi, Laibson, Madrian and Metrick (2009)), social marketing 
(Lusardi, Keller and Keller (2008)) and Quick EnrollmentTM (Choi, 
Laibson, and Madrian (2009)).
    \4\ These findings have been supported by several other studies 
including Choi, Laibson, Madrian and Metrick (2002).
---------------------------------------------------------------------------
    Additional research finds other behavioral factors affecting 
participation rates. For example, Esther Duflo and Emmanuel Saez (2002, 
2003) find that peers influence individuals' choices. Furthermore, the 
number of investment choices offered in a plan may influence 
participation. Too many choices may overwhelm individuals and make them 
less likely to make a decision. In a voluntary plan, the absence of a 
decision translates into non-participation. Sheena Sethi-Iyengar, Gur 
Huberman and Wei Jiang (2004) find evidence that this type of ``choice 
overload'' discourages plan participation. Their analysis suggests that 
for every 10 funds added to an investment menu, the probability of 
participation decreases by 1.5 to 2 percent.
    Less is known regarding why individuals may opt-out of an automatic 
enrollment plan. However, we do find in a study that combines survey 
evidence with 401(k) administrative data that trust in financial 
institutions matters.\5\ Those who distrust financial institutions are 
more likely to opt-out of automatic enrollment. This is consistent with 
previous research that has shown that distrust of financial 
institutions influences general financial behavior, particularly among 
households in the lower socio-economic strata.\6\ It is important to 
note that distrust is not necessarily irrational and that we gathered 
the data prior to the recent financial crisis.
---------------------------------------------------------------------------
    \5\ See Agnew, Szykman, Utkus and Young (forthcoming).
    \6\ Research suggests that poorer individuals have a culture of 
distrust of financial institutions (Bertrand et al., 2006; Szykman, et 
al., 2005). In a focus group conducted by Szykman et al. (2005) 
respondents expressed feelings of alienation as well as an underlying 
belief that banks cannot be trusted to do the right thing. The 
respondents also stated that they avoided doing business with banks 
because of these perceptions. Finally, Guiso et al. (2007) found that 
lack of trust can explain why some people do not invest in the stock 
market. Additionally, they find that countries with low stock 
participation rates have low trust levels.
---------------------------------------------------------------------------

Contribution Levels

    Determining how much to contribute to a plan is another important 
decision individuals face when enrolling in their 401(k) plan. 
Highlighting the influence of the default bias, James Choi, David 
Laibson, Brigitte Madrian, and Andrew Metrick (2004) report that 80 
percent of automatically enrolled participants in their study accept 
both the default contribution rate and the default investment fund. 
Consistent with the status quo bias and inertia, they find that 3 years 
later, over half of these participants maintain these default options. 
Given that plan providers often set the default contribution rate very 
low, this has become one of the few downsides of the trend towards 
automatic enrollment.\7\
---------------------------------------------------------------------------
    \7\ See Nessmith, Utkus, and Young (2007).
---------------------------------------------------------------------------
    In an effort to increase contribution levels, especially as 
automatic enrollment has caused many to anchor at low rates, some plans 
have implemented an auto escalation feature that takes advantage of 
information learned about investor psychology. First engineered by 
Thaler and Bernatzi (2004), their auto escalation scheme called Save 
More TomorrowTM allows participants to `` `lock-' in'' in to future 
increases in savings which helps them overcome self-control issues. In 
addition, the program minimizes regret by timing future contribution 
increases with pay raises. The plan also relies on inertia, the 
tendency for participants to not change their options. In their study, 
they find that after the fourth pay raise SMarT participants contribute 
on average 13.6 percent to the plan compared to an 8.8 percent 
contribution rate for those who instead consult with an advisor. The 
contrast is even more dramatic when comparing contribution rates with 
those who opt not to see a financial consultant (6.2 percent) or 
decline participation in the SMarT plan (5.9 percent).

Asset Allocations and Trading

    Another challenging decision that investors face is how to allocate 
their savings among assets and when, if at all, they should trade their 
positions. Selecting a portfolio is a complicated decision that can be 
overwhelming to many. As a result it is not surprising that the 
research shows that many individuals exhibit behavioral biases when 
making these choices and often rely on simple rules of thumb. For 
example, owning a portfolio with a high concentration of company stock 
(that is, the stock of your employer) is not consistent with the 
diversification recommendations of financial experts because company 
stock performance is correlated with employment. It became clear 
following the WorldCom and Enron debacles that overinvestment in 
company stock was a frequent practice and led to financial ruin for 
many employees. Researchers suggest that one reason participants invest 
in company stock is a familiarity bias.\8\ They buy what they know. In 
addition, other research, including my own, finds that the allocation 
to company stock is higher when the past performance of that stock is 
higher.\9\ Individuals investing in this manner are most likely 
practicing what is called ``excessive extrapolation'' which can be a 
poor way to choose allocations.
---------------------------------------------------------------------------
    \8\ For example, see Huberman (2001).
    \9\ See Benartzi (2001), Choi et al. (2004), Huberman and 
Sengmueller (2004), Agnew (2006) and Brown et al. (2007).
---------------------------------------------------------------------------
    As a cautionary example against excessive extrapolation, investors 
in Sweden's pension scheme may have been using historically high 5-year 
fund returns to aid in their fund selection. During the first year of 
the program, a technology and health-care fund recorded the best 5-year 
fund performance out of all 456 funds. An information booklet given to 
all the participants reported these returns. Interestingly, this fund 
received the largest percent of the contribution pool (4.2 percent) 
when the default fund is excluded (Cronqvist and Thaler, 2004). 
Unfortunately for those who selected this fund, by 2003 the Internet 
bubble had burst and this fund had lost 69.5 percent of its value.
    Regarding trading, unlike retail brokerage accounts, trading in 
401(k) plans is characterized by extreme inactivity, or inertia.\10\ 
Although this behavior in certain cases could be consistent with the 
implications of models for optimal portfolio choice, it could also be 
the result of procrastination. In this case, if a participant is 
defaulted into a fund that is inappropriate for his or her risk 
characteristics, the optimal action would be to trade out of the funds.
---------------------------------------------------------------------------
    \10\ For example, see Odean (1999), Ameriks and Zeldes (2001), 
Madrian and Shea (2001), Agnew, Balduzzi and Sunden (2003), Mitchell, 
Mottola, Utkus and Yamaguchi (2006).
---------------------------------------------------------------------------

Distribution Phase

    While many researchers have devoted time to studying how behavioral 
factors influence decisions in the accumulation phase, it is not until 
recently that academics have turned their attention to understanding 
the psychology behind how individuals make investment and consumption 
decisions upon retirement. Recent research has addressed one such 
decision, the decision to buy an annuity, and suggests that framing 
plays an important role in this choice.\11\ In an experimental study I 
conducted with Lisa Anderson, Jeff Gerlach and Lisa Szykman (2008), we 
find a significant influence of negative message framing on whether our 
experimental participants chose an annuity option or an investment 
option. Brown, Kling, Mullainathan and Wrobel (2008) also find 
significant results related to the influence of framing on the 
attractiveness of annuities. They use an Internet survey to demonstrate 
that the demand for annuities can be influenced by whether the consumer 
is viewing the annuity from a narrow investment frame or a broader 
consumption frame. The authors find that individuals in the consumption 
frame prefer annuities to other non-annuitized products and the reverse 
holds for the investment frame.
---------------------------------------------------------------------------
    \11\ For an overview of the research in this area, please see Brown 
(2008).
---------------------------------------------------------------------------
    Research using administrative data and experimental data shows that 
excessive extrapolation may also come into play in the annuity 
decision.\12\ Both types of research show that individuals are more 
inclined to avoid annuities when markets have exhibited higher returns 
in the past.
---------------------------------------------------------------------------
    \12\ See Agnew, Anderson and Szykman (2008), Chalmers and Reuter 
(2009) and Previtero (2010).
---------------------------------------------------------------------------
      FINANCIAL LITERACY, FINANCIAL CAPABILITY AND PLAN KNOWLEDGE

    The research presented in the previous section should make clear 
that behavioral biases influence all types of retirement related 
investment decisions. In some cases, a behavioral bias may actually 
result in a favorable outcome. For example, the default bias results in 
more people saving when automatic enrollment is used. However, the 
default bias can also lead to lower savings rates and the wrong 
portfolio allocation if those defaults are not carefully chosen for the 
participants in the plan. Moreover, the Swedish pension example 
mentioned earlier demonstrates the downside of choosing allocations 
based on prior returns. There is some evidence that those with lower 
financial literacy may be more susceptible to behavioral biases. 
Supporting this we find, in an experimental study examining portfolio 
choice, that individuals with lower financial literacy are more likely 
to choose the default option versus those in the high literacy category 
(20 percent vs 2 percent).\13\
---------------------------------------------------------------------------
    \13\ See Agnew and Szykman (2005).
---------------------------------------------------------------------------
    Unfortunately, the evidence related to financial literacy in the 
United States is grim. In a paper prepared for the Financial Crisis 
Inquiry Commission, Annamaria Lusardi (2010) provides an overview of 
research in this area. The results are disappointing but perhaps not 
surprising given recent economic events. Many Americans lack basic 
financial knowledge. A large number cannot carry out simple interest-
rate calculations, let alone correctly answer questions about asset 
types. Lusardi cites several studies that suggest that those with less 
literacy are less likely to plan for retirement, accumulate wealth and 
participate in the stock market among other things. She also describes 
the results of a National Financial Capability Study funded by FINRA 
Investor Education Foundation. In the study, financial capability is 
measured in terms of ``how well people make ends meet, plan ahead, 
choose and manage financial products, and possess the skills and 
knowledge to make financial decisions.'' The results from this study 
are equally troubling and suggest more needs to be done to improve 
American's ability to make informed and sound financial decisions.
    In my research, we find similar evidence of low financial literacy. 
In one study, we find that only 37 percent of the participants 
understood that high-yield bonds funds were not invested in bonds with 
strong credit ratings. In addition, while 84 percent of respondents 
knew they could lose money in a stock fund, only 43 percent realized 
there was also that risk in a bond fund.\14\ We also find that 
individuals' perception of their own relative knowledge and their 
actual financial literacy score are often different. This suggests that 
some people may not know how little they know. This could be an issue 
if they do not realize that they need to improve their education. 
Unfortunately, we find those with the least education show the weakest 
correlation between their tested ability and their own perception.\15\ 
This result is also supported by the nationally representative data 
sample in the National Financial Capability Study.
---------------------------------------------------------------------------
    \14\ See Agnew and Szykman (2005).
    \15\ See Agnew and Szykman (2005).
---------------------------------------------------------------------------
    In addition to low financial literacy, we find that many 
individuals are unaware of their own plan's features. We find that the 
probability of participating in an automatic enrollment plan decreases 
if the participant is not aware that they have a match.\16\ It is 
logical that individuals will not react properly to economic incentives 
when they do not understand what incentives they are offered. As a 
result, more needs to be done to explain the benefits in plans clearly 
to employees.
---------------------------------------------------------------------------
    \16\ See Agnew, Szykman, Utkus and Young (forthcoming).
---------------------------------------------------------------------------
    Also disturbing is the evidence of a lack of basic awareness 
regarding individuals' personal financial decisions. For example, in 
the two automatic enrollment plans we studied, 18 percent thought they 
were participating even though they opted out of the plan and 8 percent 
of the non-participants were unsure of their status. This lack of basic 
awareness regarding personal financial decisions is also reflected in 
the National Financial Capability Study where 12 percent of those 
surveyed could not recall how much they had paid down on their house 
and 10 percent did not know the mortgage interest rate they were 
paying.\17\ Thus, plan sponsors cannot assume that individuals are 
aware of the choices they have made in their plans and periodic 
reminders of their decisions and the possible consequences could be 
helpful. Finally, there is an alternative explanation for why 
individuals who are in automatic enrollment plans are more aware they 
have a match than those who opt-out. It could be that they become aware 
after they participate through the quarterly statements they receive. 
Thus, they are learning because they are participating. If this 
alternative theory holds, then it supports adding additional features 
to plan designs, such as periodic re-enrollment of those who opt-out.
---------------------------------------------------------------------------
    \17\ Summary of these results can be found in Lusardi (2010).
---------------------------------------------------------------------------
              FINANCIAL LITERACY AND INFORMATION OVERLOAD

    Beyond not being able to make an informed decision, low financial 
literacy may make individuals overwhelmed by financial information and 
by the presence of too many choices.\18\ This leads to what we call 
``information overload.'' When individuals experience information 
overload, it can impair their judgment by causing them to limit their 
research related to the decision, rely on simple rules of thumb or 
resign themselves to passively accept the default as it represents for 
them ``the path of least resistance.'' We find in an experiment that 
the percentage of those reporting information overload decreases with 
tested financial knowledge. Thus, those with lower financial literacy 
may be more susceptible to information overload.\19\
---------------------------------------------------------------------------
    \18\ See Agnew and Szykman (2010).
    \19\ See Agnew and Szykman (2011).
---------------------------------------------------------------------------
    There are a number of variables that may contribute to overload. 
One source could be how information about choices is presented to 
investors. Effectively communicating choice information has long been a 
topic of interest for consumer researchers, and nutritional labeling 
provides a good example of how information can be presented in a simple 
and easily comparable format.\20\ Another potential source of 
information overload is the number of investment options offered in the 
plan. Research shows that too many choices hamper decisionmaking. As 
mentioned earlier, one study finds that 401(k) plans with more options 
tend to result in lower participation rates.
---------------------------------------------------------------------------
    \20\ The economics of information literature suggests that 
consumers tend to use information more extensively if it costs less in 
time and/or money to acquire (Stigler, 1961, Nelson, 1970, 1974). These 
findings suggest that when information is easier to obtain and 
evaluate, consumers are more likely to use it when making decisions or 
choices. For example, in the nutritional labeling literature, it has 
been shown that as dependable information becomes easier to utilize 
(such as information presented in a standardized format), consumers use 
the information more to determine food quality, acquire more nutrition 
information prior to purchase, and improve their overall decision 
quality.
---------------------------------------------------------------------------
    We conducted an experimental study to see if reducing the number of 
investment choices reduced reported information overload when making a 
portfolio allocation decision.\21\ In the experiment, individuals were 
asked to make a portfolio allocation from either a large number of 
funds (60) or a small number of funds (6). The number of fund choices 
impacted the reported overload of the high-knowledge individuals in the 
sample. This group experienced statistically greater feelings of 
overload with more choices. However, low-knowledge individuals were 
overwhelmed regardless of the number of choices offered. This indicates 
that changes in plan design, such as decreasing the number of choices 
may be effective in reducing information overload, but not for all 
participants. In this case, it only helped those with above average 
knowledge. For the low-knowledge, a very vulnerable group, it did 
nothing. Thus these results provide justification for continued 
financial literacy efforts alongside behaviorally motivated plan design 
changes.
---------------------------------------------------------------------------
    \21\ See Agnew and Szykman (2005).
---------------------------------------------------------------------------
    In a separate study of participants' choice between an annuity 
vehicle and an investment option, we also found that those who reported 
less information overload when making their decision were also more 
confident at the time they made the decision.\22\ In addition, after 
the experiment was completed and participants knew the final financial 
outcome, those with less information overload were still more satisfied 
regardless of how well they did financially. One way to interpret this 
finding is that when individuals understand their decision, they are 
less likely to regret it because they understood the consequences when 
they made it. Thus by empowering investors through financial education, 
simplified plan design and effective communication, we help investors 
make more thoughtful and confident decisions. In addition, it may also 
benefit plan sponsors and the entire industry by producing more 
satisfied consumers.
---------------------------------------------------------------------------
    \22\ See Agnew and Szykman (2011).
---------------------------------------------------------------------------
    Anecdotally, participant remarks in recent focus groups conducted 
in conjunction with projects affiliated with the Center for 
Interdisciplinary Behavioral Finance Research and funded by the new 
Financial Literacy Research Consortium suggest that individuals are 
often overwhelmed. Many individuals in the groups expressed great 
anxiety related to retirement decisionmaking. In one set of focus 
groups, participants were asked to choose two or three pictures that 
represented how they felt emotionally about retirement. They were asked 
to draw them from a sample of several hundred pictures cut out of 
various magazines and acquired from different sources. The moderator 
encouraged them to choose pictures that represented their hopes and 
dreams, as well as their anxieties. The pictures chosen were varied. 
Some images depicted idyllic scenes, such as a loving couple relaxing 
in a hammock or a man peacefully fishing in the glow of a sunset. 
However, many images were disturbing and chosen because they 
demonstrated participants' feelings of being stressed and trapped. 
Several participants chose the picture below.



    It should be noted that these selections occurred just a year 
following the 
2008-9 financial crisis and one of the worst economic recessions in 
U.S. history. Thus it is hard to know whether these images are accurate 
images of respondents long-term retirement prospects, or simply an 
emotional reaction to recent experience.
    In the end, it is clear that many Americans are feeling overwhelmed 
at the present time, and that more can be done to help them make more 
informed decisions. That said, given evidence suggesting that most 
Americans are not interested in finance, the financial lessons must be 
taught in an engaging manner that recognizes that people have limited 
time and interest. To do this effectively, we must use an interactive 
approach and include financial experts, educators and marketers. One 
approach that I support is to begin financial education early on in 
elementary school and to repeat the important themes with age-
appropriate lessons on through the college years. In addition, making 
instruction and information easily available to Americans when they 
experience important life events, such as a marriage or a death in the 
family, could capture people when they are most interested and 
motivated to learn. In this regard, several interesting projects 
designed to engage Americans are currently being developed by the three 
Centers affiliated with the Financial Literacy Research Consortium 
funded by the Social Security Administration. I believe efforts like 
these and others have a great deal of merit.

                               References

Agnew, Julie R. 2006. Do behavioral biases vary across individuals? 
    Evidence from individual level 401(k) data. Journal of Financial 
    and Quantitative Analysis 41:4, 939-61.
Agnew, Julie R. 2010. Pension participant behavior. In Behavioral 
    Finance: Investors, Corporations and Markets, (eds.) Kent Baker and 
    John R. Nofsinger, 577-94. Kolb Series: John Wiley & Sons, Inc.
Agnew, Julie R., Lisa Anderson, Jeff Gerlach, and Lisa Szykman. 2008. 
    Who chooses annuities?: An experimental investigation of gender, 
    framing and defaults. American Economic Review 98:2, 418-22.
Agnew, Julie R., Lisa Anderson, and Lisa Szykman. 2010. An experimental 
    study of the effect of prior market experience on annuitization and 
    equity allocations. Working Paper. College of William and Mary.
Agnew, Julie R., Pierluigi Balduzzi, and Annika Sunden. 2003. Portfolio 
    choice and trading in a large 401(k) plan. American Economic Review 
    93:1, 193-215.
Agnew, Julie R., and Lisa R. Szykman. 2005. Asset allocation and 
    information overload: The influence of information display, asset 
    choice, and investor experience. Journal of Behavioral Finance 6:2, 
    57-70.
Agnew, Julie R., and Lisa R. Szykman. 2010. Information overload and 
    information presentation in financial decisionmaking, In The 
    Handbook of Behavioral Finance, (ed.) Brian Bruce. Edward Elgar 
    Publisher.
Agnew, Julie and Lisa Szykman. 2011. Annuities, financial literacy and 
    information overload, In Financial Literacy: Implications for 
    Retirement Security and the Financial Marketplace (eds.) Olivia S. 
    Mitchell and Annamaria Lusardi, 260-97. Oxford, UK: Oxford 
    University Press, forthcoming.
Agnew, Julie, Lisa Szykman, Steve P. Utkus and Jean A. Young. 
    Forthcoming. ``Trust, Plan Knowledge and 401(k) Savings Behavior.'' 
    Journal of Pension Economics and Finance.
Ameriks, John, and Stephen P. Zeldes. 2001. How do household portfolio 
    shares vary with age? Working Paper, Columbia University.
Benartzi, Shlomo. 2001. Excessive extrapolation and the allocation of 
    401(k) accounts to company stock. Journal of Finance 56:5, 1747-64.
Bertrand, Marianne, Sendhil Mullainathan, and Eldar Shafir. 2006. 
    Behavioral economics and marketing in aid of decisionmaking among 
    the poor. Journal of Public Policy and Marketing 21:2, 8-23.
Brown, Jeffrey R. 2008. Understanding the role of annuities in 
    retirement planning. In Overcoming the saving slump: How to 
    increase the effectiveness of financial education and savings 
    programs, (ed.) Annamaria Lusardi, 178-208. Chicago: University of 
    Chicago Press.
Brown, Jeffrey R., Jeffrey R. Kling, Sendhil Mullainathan, and Marian 
    V. Wrobel. 2008. Why don't people insure late-life consumption? A 
    framing explanation of the underannuitization puzzle. American 
    Economic Review 98:2, 304-09.
Brown, Jeffrey R., Nellie Liang, and Scott Weisbenner. 2007. Individual 
    account investment options and portfolio choice: Behavioral lessons 
    from 401(k) plans. Journal of Public Economics 91:10, 1992-2013.
Carroll, Gabriel, D., James Choi, David Laibson, Brigitte C. Madrian, 
    and Andrew Metrick. 2009. ``Optimal Defaults and Active 
    Decisions.'' Quarterly Journal of Economics 124:4, 1639-74.
Chalmers, John and Jonathan Reuter. 2009. How do retirees value life 
    annuities? Evidence from Public Employees. Working paper.
Choi, James J., David Laibson, and Brigitte Madrian. 2009. Reducing the 
    Complexity Costs of 401(k) Participation through Quick 
    EnrollmentTM. In Developments in the Economics of Aging, (ed.) 
    David A. Wise, 57-82. Chicago: University of Chicago Press.
Choi, James J., David Laibson, Brigitte C. Madrian, and Andrew Metrick. 
    2002. Defined contribution pensions: Plan rules, participant 
    decisions and the path of least resistance. In Tax Policy and the 
    Economy, (ed.) James M. Poterba, 67-113. Cambridge, MA: MIT Press.
Choi, James J., David Laibson, Brigitte C. Madrian, and Andrew Metrick. 
    2004. For better or for worse: Default effects and 401(k) savings 
    behavior. In Perspectives on the economics of aging, (ed.) David 
    A.Wise, 81-121. Chicago: University of Chicago Press.
Cronqvist, Henrik, and Richard H. Thaler. 2004. Design choices in 
    privatized social security systems: Learning from the Swedish 
    experience. American Economic Review 94:2, 424-28.
Duflo, Esther, and Emmanuel Saez. 2002. Participation and investment 
    decisions in a retirement plan: The influence of colleagues' 
    choices. Journal of Public Economics 85:1,121-148.
Duflo, Esther, and Emmanuel Saez. 2003. The role of information and 
    social interactions in retirement plan decisions: Evidence from a 
    randomized experiment. Quarterly Journal of Economics 118:3, 815-
    842.
Guiso, Luigi, Paola Sapienza, and Luigi Zingales. 2008. Trusting the 
    stock market. Journal of Finance 63:6, 2557-600.
Huberman, Gur. 2001. Familiarity breeds investment. Review of Financial 
    Studies 14:3, 659-80.
Huberman, Gur, and Paul Sengmueller. 2004. Performance and employer 
    stock in 401(k) plans. Review of Finance 8:3, 403-43.
Johnson, Eric J., and Daniel Goldstein. 2003. Do Defaults Save Lives? 
    Science 302:5649, 1338-9.
Lusardi, Annamaria. 2010. ``America's Financial Capability.'' Paper 
    prepared for the Financial Crisis Inquiry Commission.
Lusardi, Annamaria, Punam Anand Keller, and Adam M. Keller. 2008. ``New 
    Ways to Make People Save: A Social Marketing Approach.'' In 
    Overcoming the Saving Slump: How to Increase the Effectiveness of 
    Financial Education and Savings Programs, (ed.) Annamaria Lusardi 
    (ed.), 209-36. Chicago: University of Chicago Press.
Madrian, Brigitte C., and Dennis F. Shea. 2001. ``The Power of 
    Suggestion: Inertia in 401(k) Participation and Savings Behavior.'' 
    Quarterly Journal of Economics 116:4, 1149-87.
Mitchell, Olivia S., Gary R. Mottola, Stephen P. Utkus, and Takeshi 
    Yamaguchi. 2006. The inattentive participant: Portfolio trading 
    behavior in 401(k) plans. Pension Research Council Working Paper, 
    PRC WP 2006-5, The Wharton School.
Nelson, Phillip. 1970. ``Information and Consumer Behavior.'' Journal 
    of Political Economy 78, 311-329.
Nelson, Phillip. 1974. ``Advertising as Information.'' Journal of 
    Political Economy 83, 729-54.
Nessmith, William E., Stephen P. Utkus, and Jean A. Young. 2007. 
    Measuring the effectiveness of automatic enrollment. Vanguard 
    Center for Retirement Research, Volume 31.
Odean, Terrance. 1999. Do investors trade too much? American Economic 
    Review 89:6, 1279-98.
Previtero, Alessandro. 2010. Stock market returns and annuitization. 
    Working Paper, UCLA Anderson School of Management.
Sethi-Iyengar, Sheena, Gur Huberman, and Wei Jiang. 2004. ``How Much 
    Choice is Too Much? Contributions to 401(k) Retirement Plans.'' In 
    Pension Design and Structure: New Lessons from Behavioral Finance, 
    (eds.) Olivia S. Mitchell and Stephen P. Utkus, 83-95. Oxford 
    University Press.
Stigler, George. 1961. ``The Economics of Information.'' Journal of 
    Political Economy, 69, 213-255.
Szykman, Lisa, Don Rahtz, Michael Plater, and Greg Goodwin. 2005. 
    Living on the edge: Financial services for the lower socio-economic 
    strata. Working Paper, College of William and Mary.
Thaler, Richard H., and Shlomo Benartzi. 2004. Save more tomorrow: 
    Using behavioral economics to increase employee saving. Journal of 
    Political Economy 112:1, 164-87.

                                Appendix
                               Chapter 31
                    Pension Participant Behavior \1\

    (By Julie Richardson Agnew, Associate Professor of Finance and 
                Economics, College of William and Mary)

                              INTRODUCTION

    Over the past 25 years, the United States has witnessed a dramatic 
shift in pension coverage (for an overview, see Poterba, Venti, and 
Wise, 2008). For years, Social Security and defined benefit plans 
provided many employees guaranteed support in retirement. In both 
cases, difficult savings and investment decisions were not the 
responsibility of the participants. Today, the landscape has changed 
dramatically. While policymakers debate serious concerns about the 
long-term solvency of the Social Security system, defined contribution 
plans have become the most common pension offering. From the employer's 
perspective, this change is beneficial because defined contribution 
plans are less expensive to administer and shift the portfolio risk 
entirely to the employee. From the employee's perspective, defined 
contribution plans offer portability but also involve the personal 
responsibility of making critical savings decisions. For many, these 
new and challenging financial decisions are overwhelming and further 
complicated by a lack of financial literacy, interest, and time. One 
unintended consequence of this shift is that it has provided academics 
a rich context for investigating behavioral finance theories. Over the 
past 10 years, this growing area of research has enhanced our 
understanding of the psychology of investing, provided substantial 
support for various theories, and led to significant changes in 
retirement plan design that have improved overall savings outcomes. The 
purpose of this chapter is to summarize the most significant findings 
in this area that relate to behavioral finance and highlight the 
successful plan design changes that have resulted.
---------------------------------------------------------------------------
    \1\ From Behavioral Finance: Investors, Corporations and Markets, 
Kent Baker and John R. Nofsinger, Editors. John Wiley & Sons, Inc., 
2010. Reprinted with permission of the Publisher.
---------------------------------------------------------------------------
    This chapter contains six main sections. The first five sections 
address the behavioral aspects of five important financial decisions 
investors must make in their retirement plans: (1) whether to 
participate in the plan, (2) how much to periodically contribute, (3) 
where to allocate assets, (4) when to rebalance allocations, and (5) 
how to handle the sum they have accumulated once they retire. The final 
section discusses how financial literacy and lack of interest may 
contribute to the influence of biases and heuristics in these 
decisions.

                       THE PARTICIPATION DECISION

    When employers first introduced defined contribution plans, 
employees typically joined their retirement plan under a voluntary 
enrollment arrangement. This meant they had to consciously ``opt-in'' 
to participate. Early studies largely focused on rational explanations 
for nonparticipation. Often studies used either 401(k) administrative 
data or survey evidence to investigate the role of plan features and 
individual characteristics. Researchers often found that plan design 
elements--such as employer matches and individual characteristics like 
age, salary, ethnicity, and job tenure--mattered for participation 
rates. Munnell, Sunden, and Taylor (2001/2002) provide a concise survey 
of this early work. By the late 1990s, a growing interest in behavioral 
reasons for nonparticipation was emerging that led to research evidence 
supporting several behavioral biases. Today, the retirement savings 
decision is clearly a function of a complex set of factors. In addition 
to rational explanations for nonparticipation, behavioral biases can 
play an important role.
    A popular Madrian and Shea (2001) study led to widespread changes 
in plan design. The authors analyze one 401(k) plan transitioning from 
a voluntary (opt-in) enrollment arrangement to an automatic (opt-out) 
enrollment arrangement. According to rational-choice theory, this 
change in enrollment method should have no effect on participation 
levels if individuals have well-defined preferences because a person 
will always optimize and select the best option (Johnson and Goldstein, 
2003). Contrary to this expectation, the authors find participation 
levels for employees at similar points in job tenure increase 
significantly when automatic enrollment is introduced, from 37 percent 
to 86 percent. In addition, participation rates between demographic 
groups equalize. The authors are careful in their analysis and make 
sure that none of the economic characteristics such as the vesting 
schedule, number of investment options, access to loans, and level of 
employer matching change during the study. As a result, their findings 
strongly point to behavioral explanations. Madrian and Shea provide a 
thorough summary of several behavioral theories that explain their 
findings and highlight procrastination, in particular, as a very likely 
cause.
    So what causes individuals to procrastinate when making important 
decisions about their long-run financial well-being? At first this 
might seem puzzling, but the complexity of these decisions and their 
high stakes are the very reasons individuals most likely delay 
decisionmaking. O'Donoghue and Rabin's (2001) model predicts that an 
individual's tendency to procrastinate increases the more important the 
goal and the more options that are available. In addition, the 
perceived complexity of the decision is further complicated by the 
well-documented lack of interest and knowledge of finance among workers 
that is discussed in the last section of this chapter.
    Procrastination may also be influence by how aware individuals are 
of their own self-control problems. Time-inconsistent behavior, such as 
neglecting to save for retirement, can result when individuals' lack of 
self-control causes them to pursue immediate gratification over long-
term benefits (Thaler and Shefrin, 1981). O'Donoghue and Rabin's (2001) 
model suggests that the more ignorant individuals are regarding their 
own self-control, the more likely they are to procrastinate. Laibson 
(1997) and Diamond and Koszegi (2003) provide additional research on 
time-inconsistent behavior and retirement that focuses specifically on 
hyperbolic and quasi-hyperbolic discounting.
    Madrian and Shea (2001) also suggest that the status quo bias may 
influence their findings. The status quo bias is the tendency for 
individuals to do nothing or maintain their current or previous 
decision. In Samuelson and Zeckhauser's (1988) experimental testing of 
this phenomenon, they find that subjects are significantly influenced 
by the status quo even if they do not recognize a bias. According to 
these authors, rational reasons including transaction costs (such as 
information search costs) and uncertainty, as well as cognitive 
misperceptions (such as loss aversion and anchoring), can all lead to 
the status quo bias. They also mention that psychological commitments 
such as regret avoidance can play a role. Obviously, each of these 
factors could come into play in retirement decisionmaking. Therefore, 
the different participation rates that Madrian and Shea find are also 
consistent with this theory.
    The number of choices the individual must make also contributes to 
nonparticipation. As mentioned earlier, O'Donoghue and Rabin's (2001) 
model predicts that additional choices can increase the probability of 
procrastination. In the case of 401(k) plans, if the individual chooses 
to participate, he or she then faces several additional decisions such 
as how much to save and how to allocate his or her portfolio across a 
variety of investment options. This may lead to what is called choice 
overload.
    Iyengar and Lepper (2000) test the choice overload theory in an 
innovative study using consumer goods in field and laboratory 
experiments. In one experiment, they present supermarket shoppers with 
either a display of 24 exotic jams (extensive choice condition) or six 
exotic jams (limited choice condition). While they find more people are 
drawn to the extensive choice display (60 percent versus 40 percent), 
the individuals who view the limited choice display are actually more 
likely to purchase the jams than those who view the extensive choice 
set (30 percent versus 3 percent). Thus, Iyengar and Lepper conclude 
that too much choice can be demotivating.
    To test the influence of the number of fund choices on retirement 
plan participation, Sethi-Iyengar, Huberman, and Jiang (2004) use 
401(k) administrative data provided by Vanguard. They find that the 
probability of participation decreases as the number of funds in the 
investment menu increases. Their analysis suggests that for every 10 
funds added to an investment menu, the probability of participation 
decreases by 1.5 to 2 percent.
    Beyond plan features, peer effects may also influence 
participation. Survey studies by Lusardi and Mitchell (2006) and van 
Rooij, Lusardi and Alessie (2007) report that a high percentage of 
respondents consult with family and friends when making financial 
decisions. In a study of employees at a university offering a tax-
deferred account, Duflo and Saez (2002) find evidence of peer effects 
in their analysis of participation rates and investment decisions. 
Using an administrative dataset, they find that when participation 
rates increase by 1 percent in a department, the probability of an 
individual participating in that department increases by 0.2 percent.
    In a separate paper, Duflo and Saez (2003) study the role of social 
interactions by conducting a field study in which they invite 
individuals who do not participate in their university retirement plan 
to attend a benefits fair that encourages enrollment. They promise the 
invitees a $20 reward for attending. The authors draw these ``treated'' 
individuals from a random subset of departments to estimate the role of 
social interaction effects. The results show that the treatment 
significantly affects the attendance at the benefits meeting. The 
treated individuals are five times more likely to attend the benefits 
meeting versus the control sample. In addition, Duflo and Saez note a 
significant spillover social effect. Individuals not given invitations 
but working in a department with treated individuals are three times as 
likely to attend the fair versus their controls in departments without 
invited employees. The treatment also affects plan participation rates. 
Treated departments report higher participation rates. Interestingly, 
whether an individual receives an invitation letter does not influence 
participation: What matters is whether the individual is in a treated 
department. Duflo and Saez's results suggest that small financial 
rewards and/or peer effects can significantly influence important 
decisions like retirement savings.
    Trust may also influence participation. Research suggests that a 
lack of trust in financial institutions can influence general financial 
behavior, specifically among lower socioeconomic households. For 
example, studies by Szykman, Rahtz, Plater, and Goodwin (2005) and 
Bertrand, Mullainathan, and Shafir (2006) show that poor individuals 
consciously avoid doing business with financial institutions due to 
their lack of trust in them. In addition, Guiso, Sapienza, and Zingales 
(2008) find that lack of trust may explain why some individuals do not 
invest in the stock market.
    To explore the role of trust in 401(k) participation, Agnew, 
Szykman, Utkus, and Young (2009) use a dataset that combines survey 
data with administrative data from three plans, two featuring automatic 
enrollment and one with voluntary enrollment. They find lack of trust 
in financial institutions lowers the probability of participating in an 
automatic enrollment plan. For a married male with average demographic 
characteristics based on the data sample, a low level of trust 
corresponds to a 15 percent lower probability of participation.
    Taken together, the research described above suggests that non-
economic or behavioral motivations can influence participation. 
Proponents of Thaler and Sunstein's philosophy of libertarian 
paternalism would argue that private and public institutions have a 
responsibility to help guide people toward welfare-promoting choices 
without eliminating freedom of choice (Thaler and Sunstein, 2003; 
Sunstein and Thaler, 2003). Recent and significant changes in plan 
design and enrollment techniques in retirement plans suggest that many 
plan sponsors are acting consistently with this philosophy.
    The most notable change in retirement plans is the widespread 
adoption of automatic enrollment. At the time of Madrian and Shea's 
(2001) study, this feature was still relatively uncommon but in 2007 
the Profit Sharing/401(k) Council of America estimated that 53 percent 
of large plans automatically enrolled participants (Wray, 2009). This 
change in plan design has led to a significant increase in 
participation rates. While the trend toward automatic enrollment 
continues, some company sponsors remain resistant to this change and 
prefer the voluntary enrollment approach. Fortunately for these plan 
sponsors, a growing understanding of behavioral finance has led to some 
new approaches that work with voluntary schemes. While the three 
alternatives discussed below are successful, none increase 
participation to the level of automatic enrollment.
    Active choice is an alternative method that institutes a deadline 
to require workers to decide whether to participate. Without default 
options, workers must make explicit decisions related to contribution 
rates and allocations. Under active choice, Carroll, Choi, Laibson, 
Madrian, and Metrick (2009) find that enrollment after three months is 
28 percent higher compared to a voluntary arrangement. They also 
demonstrate that if individuals are likely to procrastinate and have 
heterogeneous optimal savings rates, then this method is socially 
optimal.
    A second approach uses social marketing to promote participation. 
Lusardi, Keller, and Keller (2008) employ surveys, focus groups, and 
in-depth interviews to identify three barriers to savings by 
participants. Considering these obstacles, they devise a planning aid 
that helps at-risk, new employees overcome self-control issues. Thirty 
days after the first intervention, they find the participation rate 
tripled compared to the control group.
    Finally, Choi, Laibson, and Madrian (2009) study a program 
instituted by Hewitt Associations called Quick EnrollmentTM. This 
enrollment method reduces the complexity of the decision by requiring 
employees to consider only two choices between nonparticipation and 
participation with contribution rate and asset allocation defaults. 
They find that quick enrollment triples 401(k) participation rates 
after 3 months for new employees and increases participation by 
previously hired workers by 10 to 20 percent. However, the authors find 
evidence of a default bias associated with the contribution rate and 
asset allocations.

                          CONTRIBUTION LEVELS

    Once the employee is enrolled in the plan, there are still several 
important decisions remaining. For those who have been voluntarily 
enrolled, he or she must now decide how much of his or her paycheck to 
contribute to the plan. Research shows that contribution rates often 
cluster around several points. Benartzi and Thaler (2007) explain that 
this is evidence that individuals may be using different savings 
heuristics. They describe several heuristics based on these commonly 
found clusterings, including a ``multiple-of-five heuristic,'' a 
``maximum contribution heuristic,'' and an ``employer match 
heuristic.''
    In contrast to the voluntarily enrolled participants, automatically 
enrolled participants are not required to choose a contribution rate 
because a default rate is available. In the case of automatically 
enrolled participants, researchers commonly observe a strong default 
bias with the contribution rates anchored to the default. Highlighting 
the influence of the default bias, Choi, Laibson, Madrian, and Metrick 
(2004) report that 80 percent of automatically enrolled participants in 
their study accept both the default savings rate and the default 
investment fund. Consistent with the status quo bias and inertia, they 
find that 3 years later, over half of these participants maintain these 
default options. Given that plan providers often set the default 
contribution rate very low, this has become one of the few downsides of 
the trend toward automatic enrollment (Nessmith, Utkus, and Young, 
2007).
    Once the individual sets or accepts a contribution level, Choi, 
Laibson, Madrian, and Metrick (2009) find that a naive reinforcement 
learning heuristic may lead to subsequent changes in the contribution 
level. According to this heuristic, individuals increase weights on 
strategies with which they have personally experienced success even 
when future success is not logically related to past experience. Using 
administrative data, the authors find that investors who have positive 
savings outcomes in their 401(k) plans (either high average returns 
and/or low variance returns) increase their savings rates more than 
others with different experiences.
    In an effort to increase contribution levels, especially as 
automatic enrollment has caused many to anchor at low rates, several 
plans have implemented a new feature that takes advantage of 
information learned about investors' psychology. Engineered by Thaler 
and Bernatzi (2004), the Save More Tomorrow PlanTM (SMarT) takes into 
account the self-control problems. As a result, the program requires 
employees to commit far in advance to increases in contribution rates. 
This ``future lock-in'' is known to overcome participants' problems 
with self-control and is effective in enabling individuals to select 
what they ``should'' do over what they ``want'' to do (Rogers and 
Bazerman, 2008). The SMarT program also mitigates feelings of loss by 
timing the contribution rate increases with future raises. Inertia 
works to the participants' advantage because a suboptimal decision is 
to change once the initial decision to enroll in the program is made. 
That said, consistent with libertarian paternalism, employees may opt 
out of the program at any time.
    The results from the first implementation of the program show 
dramatic increases in savings for SMarT participants. In addition, as 
status quo bias theory would predict, few people drop out. After the 
fourth pay raise, SMarT participants contribute on average 13.6 percent 
to the plan. This compares to an 8.8 percent contribution rate for 
those who instead consulted with an advisor. The contrast is even more 
dramatic when comparing contribution rates with those who opt not to 
see the financial consultant (6.2 percent) or decline participation in 
the SMarT plan (5.9 percent).

                       ASSET ALLOCATION DECISIONS

    Once the individual decides on or accepts a contribution rate, he 
or she must decide how to allocate the portfolio. This can be 
challenging because research suggests that individuals may not have 
well-defined portfolio preferences (Benartzi and Thaler, 2002). Not 
surprisingly, as with participation and contribution rate decisions, 
defaults appear to have an influence (Choi, Laibson, Madrian, and 
Metrick, 2002, 2004). As mentioned earlier, Choi, et al. (2004) report 
that in their study, 80 percent of automatically enrolled participants 
accept the default investment fund. Similarly, in an analysis of 50 
retirement plans, Nessmith et al. (2007) find that new hires in 
automatic enrollment plans are three times as likely to put all of 
their contributions in the default investment fund compared to new 
hires in voluntary plans. They also find that 51 percent of individuals 
remain in the plan default after 2 years.
    While the influence of defaults is obviously powerful, evidence 
suggests that the default bias can be overcome through committed and 
sustained efforts to encourage active choice. One of the most 
interesting examples of this is the Swedish pension system. Under the 
Swedish pension scheme, individuals may invest in up to five funds out 
of a menu of over 400 fund choices. In 2000, the first year of the 
plan, the Swedish government undertook a large advertising campaign to 
increase public awareness of options. In the first year of the system, 
a large percentage of citizens made an active fund allocation choice 
(67 percent). As a result, the initial appearance was that Swedish 
investors were far less susceptible to the default bias than U.S. 
investors (Engstrom and Westerberg, 2003). However, by 2003, the 
advertising level had decreased, and 91.6 percent of new participants 
chose the default fund (Cronqvist and Thaler, 2004), demonstrating that 
the default bias is not limited to U.S. investors and cannot be 
overcome without sustained efforts.
    In addition to the default bias, other behavioral biases can 
influence allocations. Company stock investment provides an excellent 
case study. Given the well-known benefits of diversification, it is 
puzzling that investors would invest substantial amounts in one 
security, especially one highly correlated with their own human 
capital. Several studies detail the potentially large welfare costs 
associated with company stock investment (Muelbroek, 2002; Poterba, 
2003; Even and Macpherson, 2008). Despite these costs, participants 
still concentrate their portfolios in company stock, and recent 
research suggests that behavioral biases may be to blame.
    For example, Huberman (2001) suggests that a familiarity bias may 
influence an investment choice. He asserts that some investors are not 
optimizing their portfolios based on risk and return but rather 
choosing to invest in what they know. Huberman finds evidence of this 
in investing patterns associated with U.S. Regional Bell Operating 
Companies. Along similar lines, Cohen (2009) suggests that loyalty may 
come into play. He finds that employees of stand-alone firms invest 10 
percent more in company stock than employees in conglomerates.
    Benartzi (2001) suggests that there may also be an endorsement 
effect when the employer restricts the employer match to company stock. 
Brown, Liang, and Weisbenner (2006) provide more information about why 
employers might provide matching contributions in company stock. 
Contrary to rational expectations, Benartzi finds that when the 
employer match is in company stock participants allocate more of their 
own contributions to this security (18 percent versus 29 percent). He 
theorizes that employees are interpreting the company stock match as 
implicit investment advice. Using pooled cross sections of data, Brown, 
Liang, and Weisbenner (2007) find similar evidence. However, when they 
control for firm-level fixed effects, they find this relationship 
between match policy and employee contributions to company stock 
disappears.
    Excessive extrapolation may also affect company stock allocations. 
Benartzi (2001) finds that discretionary contributions to company stock 
with the poorest 10-year stock performance were lower than those with 
the best performance (10.4 percent versus 39.7 percent). Additional 
studies also find links between past company stock returns and company 
stock holdings (Choi et al., 2004; Huberman and Sengmueller, 2004; 
Agnew, 2006; Brown et al., 2007).
    Moving beyond company stock allocation decisions, research suggests 
that excessive extrapolation can also be a factor in other asset 
choices. Returning to the Swedish pension scheme example, investors may 
have been using historic 5-year fund returns to aid in their fund 
selection process. During the first year of the program, a technology 
and health-care fund recorded the best 5-year fund performance out of 
all 456 funds. An information booklet given to all participants 
reported these returns. Interestingly, this fund received the largest 
percent of the contribution pool (4.2 percent) excluding the default 
fund (Cronqvist and Thaler, 2004). Unfortunately for those who selected 
this fund, by 2003 the Internet bubble had burst, and this fund had 
lost 69.5 percent of its value. This example is a cautionary tale about 
the potential pitfalls of using simple allocation heuristics.
    Past research also suggests that the investment menu may affect 
asset allocations. Benartzi and Thaler (2001) find some evidence that 
individuals follow a naive diversification strategy called the ``1/n 
heuristic.'' Based on this rule of thumb, investors divide their 
contributions equally among the n choices available. Depending on the 
fund menu, this strategy can easily result in portfolios that are 
inconsistent with the investors' risk preferences and lead to large ex 
ante welfare losses as documented by the authors. This rule of thumb 
appears to become less popular as the number of fund choices increases. 
Huberman and Jiang (2006) find that for a menu with a large number of 
funds, individuals follow a slightly different heuristic, which they 
refer to as the ``conditional 1/n rule.'' Agnew (2006) also finds 
evidence of the conditional 1/n rule. According to the conditional 
rule, participants will divide their allocations equally among the 
number of funds they choose. The number of funds chosen is not 
necessarily equal to the total number of funds offered. Huberman and 
Jiang (2006) point out that this may not be an irrational strategy.
    Brown et al. (2007) provide further evidence of menu-driven 
effects. They use aggregate data and find that the number and mix of 
investment options significantly affects the allocation of 
contributions. They estimate that increasing the share of 
equity funds from 1/3 to 1/2 increases overall participant allocations 
to equity funds by 7.5 percentage points. Using individual-level 
administrative data, Agnew (2006) also finds evidence of mental 
accounting (Kahneman and Tversky, 1984; Thaler, 1985, 1999) when 
company stock is present. In a variation on the conditional 1/n 
heuristic, Agnew finds that individuals appear to allocate their 
contributions to company stock and then divide equally their remaining 
allocations to the other asset holdings. From these results, 
participants are apparently treating company stock as a separate asset 
class. This finding supports earlier work by Benartzi and Thaler 
(2001). Finally, Choi, Laibson, and Madrian (2008a) find mental 
accounting present when employees do not choose their own match 
allocation.
    Once again highlighting the importance of choice architecture, 
Benartzi and Thaler (2007) report surprising results related to subtle 
changes to the investment form design. They test whether the number of 
lines on a fund election form can influence the number of funds in 
which participants invest. In an experiment using Morningstar.com, they 
asked participants to allocate money among eight hypothetical funds. 
Participants received one of two possible computer forms, one featuring 
four lines with a hyperlink to invest in more than four funds and one 
with eight lines. The number of lines did significantly influence the 
behavior. Only 10 percent of individuals presented with the four-line 
form chose more than four funds compared to 40 percent of those viewing 
the form with more lines. Benartzi, Peleg, and Thaler (2008) provide 
further discussion about choice architecture.
    This research has helped plan sponsors recognize the complexity of 
the allocation decision and the tendency of employees to rely on simple 
heuristics when making allocation choices. In response, 401(k) 
providers have become proactive in improving plan design and 
introducing new products intended to simplify the process and improve 
savings outcomes. Target date funds (sometimes referred to as Life-
Cycle funds) are a recent example of this type of new product. These 
funds have rapidly become a common offering in 401(k) menus since the 
2006 Pension Protection Act authorized that they could be used as 
default options. Nessmith and Utkus (2008) estimate that participants 
invested $183 billion in these funds in 2007, and 81 percent of plans 
with auto-enrollment used them as their default. While not without 
controversy, these funds are theoretically an effective tool to help 
individuals maintain a portfolio mix that is appropriate over the long 
term. One advantage of these funds is that they reduce the complexity 
of the allocation decision for the investor because the participant 
need only choose a fund with a date similar to his or her expected 
retirement date. Once a participant decides to invest in a target date 
fund, the status quo bias and inertia keep the participant's investment 
decision on track. Viceria (2008) provides more details about how the 
first generation of these products relates to academic models of asset 
allocation and suggests improvements for future products.
    While an innovative and a seemingly error-proof solution, the way 
target date funds are actually used in individuals' portfolios is 
perplexing and suggests that individuals may not fully understand this 
growing asset class. Nessmith and Utkus (2008) find that just over half 
of target date fund investors are ``pure'' investors who hold only one 
single target date fund when these products are offered, while the 
remaining group represents ``mixed'' investors who combine target date 
funds with other investment options. In an analysis of a similar type 
of fund that is based on risk preferences, so-called lifestyle funds, 
Agnew (2007) finds similar ``mixed'' portfolio results. Of the 
participants in her sample, 36 percent held at least one lifestyle 
fund, and of that group nearly half (47 percent) invested in multiple 
lifestyle funds.
    Whether these ``mixed'' portfolios are due to participants 
optimizing their overall portfolios or a result of naive decisionmaking 
is unclear. However, there is growing evidence that a lack of financial 
understanding about these new products may drive this behavior, and 
this is discussed later in the financial literacy section. In addition 
to financial literacy, Nessmith and Utkus (2008) propose several 
rational and behavioral explanations for the mixed portfolios including 
naive diversification, inertia, and employer matching effects. Future 
research will need to test all these theories. However, existing 
evidence shows that defaults can encourage more pure ``single 
selection'' investing. Mitchell, Mottola, Utkus, and Yamaguchi (2008) 
find that participants are more likely to be ``pure'' investors when 
the default option is a target date fund. Once again, if individuals 
have well-defined preferences, the presence of a default should not 
matter.
    With regard to company stock investment, Bernatzi and Thaler (2003) 
are developing a new program based on behavioral finance principles 
similar to their SMarT program discussed earlier. The results of this 
program are still to be tested.

                                TRADING

    Once retirement participants make an asset allocation, they must 
then decide if and how to rebalance their portfolio over time. Unlike 
retail brokerage accounts, trading in 401(k) plans is characterized by 
extreme inertia (Odean, 1999; Ameriks and Zeldes, 2001; Madrian and 
Shea, 2001; Agnew, Balduzzi, and Sunden, 2003; Mitchell, Mottola, 
Utkus, and Yamaguchi, 2006). Agnew et al. (2003) find that, on average, 
investors trade only once every 3.85 years. Mitchell et al. (2006) 
discover that almost 80 percent of the 1.2 million workers they study 
do not trade over a 2-year period. This behavior is consistent with the 
implications of models of optimal portfolio choice with realistic 
transaction costs (Lynch and Balduzzi, 2000). However, such behavior 
can be a concern if it results from procrastination. For example, if a 
participant is defaulted into a fund that is inappropriate for his or 
her risk characteristics, the optimal action would be to trade out of 
the fund.
    This inertia appears to persist even in times of market turmoil 
(Mottola and Utkus, 2009). However, evidence suggests that a very small 
subset of individuals may be reacting to market returns. Mottola and 
Utkus report spikes in the number of investors who completely abandoned 
equities during the months of extreme market downturns in 2008. 
However, the number of traders represents an extremely small proportion 
of the sample. This type of trading is consistent with a positive 
feedback strategy where investors buy assets that are increasing and 
sell assets that are falling. Using data from only one 401(k) plan, 
Agnew et al. (2003) find evidence of positive feedback trading with a 
one-day lag. Using a more comprehensive but aggregated dataset of 
retirement asset flows representing 1.5 million participants over a 5-
year period, Agnew and Balduzzi (2009) find additional evidence of 
feedback trading within the day. Taken together this evidence is a 
cause for concern as it suggests that some investors may deviate from 
their long-run investment objectives in response to one-day market 
returns.
    Trading in 401(k) trading plans has also been shown to be influence 
by access to the Internet. Choi, Laibson, and Metrick's (2002) study 
finds that trading frequency after 18 months of access to Web trading 
nearly doubles relative to a control group of individuals without 
access. This finding may be a result of the fact that Web trading 
reduces time and other transaction costs. Mitchell et al. (2006) also 
discover that the most active traders use the Internet. Yamaguchi, 
Mitchell, Mottola, and Utkus (2006) find that active trading does not 
lead to higher risk-adjusted returns but passive rebalancing through 
balanced and life-cycle funds does. Given the documented inertia and 
the benefits of rebalancing, plan sponsors have introduced life-cycle 
funds that automatically adjust portfolio shares over time, as well as 
managed account services.

                           DISTRIBUTION PHASE

    While many researchers have devoted time to studying how behavioral 
factors influence decisions in the accumulation phase, far fewer have 
studied how these influences affect how individuals make investment and 
consumption decisions upon retirement. For most defined contribution 
plans, the default is for participants to withdraw their money in a 
lump sum after a certain age. At this point, participants face 
complicated decisions. Should annuities play a role in their retirement 
portfolio? How should they allocate assets, and how much should they 
consume so that they do not run out of money?
    In response to these questions, theoreticians contend that single, 
premium lifetime immediate annuities should play a role in retirement 
portfolios. However, the actual market for these products is relatively 
small, which is puzzling to academics whose models of rational behavior 
predict a much larger demand. Even when theoreticians add extensions to 
the basic model, such as adverse selection and bequest motives, they 
cannot explain the small size of the actual market. This well-known 
fact is commonly referred to as ``The Annuity Puzzle.'' Brown (2008) 
provides a thorough and informative summary of the past theoretical and 
empirical literature and challenges researchers to consider behavioral 
explanations in the future. He offers framing, complexity, mental 
accounting, loss aversion, misleading heuristics, regret aversion, and 
the illusion of control as possible behavioral reasons for the annuity 
puzzle.
    One recent study by Hu and Scott (2007) explores how several 
behavioral theories such as cumulative prospect theory, loss aversion, 
and mental accounting can explain the low demand for immediate 
annuities. They find behavioral reasons for the popularity of 
guaranteed period life annuities.
    Two new studies examine the role of framing in the annuity 
decision. Agnew, Anderson, Gerlach, and Szykman (2008) use a large 
scale-laboratory experiment to investigate the influence of negative 
message framing. They are motivated by the framing work of Tversky and 
Kahneman (1981) and more recent studies in the health communications 
literature that examine how positive and negative messages influence 
recommended health behaviors (Block and Keller, 1995). Agnew et al. ask 
participants to play a retirement game with real money where they must 
choose between an annuity and an investment. Before making their 
decision, the participants see one of three brief presentations that 
either (1) favor the annuity choice by emphasizing the potential losses 
associated with investing in the market and outliving resources, (2) 
favor the investment choice by emphasizing the potential loss from 
dying early after purchasing an annuity, or (3) favor neither choice. 
The presentations were factual but played on the participants' aversion 
to loss. Agnew et al. report a sizeable and significant influence of 
the message frame.
    Using a different type of frame, Brown, Kling, Mullainathan, and 
Wrobel (2008) also find significant results related to the influence of 
framing on the attractiveness of annuities. They use an Internet survey 
to demonstrate that the demand for annuities can be influence by 
whether the consumer is viewing the annuity from a narrow investment 
frame or a broader consumption frame. They present individuals with 
product choices that represent annuities and competing non-annuitized 
products like savings accounts. Some participants view the product 
choices from an investment frame where they are discussed in terms of 
their account values and earnings. Other participants are presented 
with the same products but they are discussed in a consumption frame. 
In this case, the discussion centers around how much the consumer can 
spend over time with each option. The authors find that individuals in 
the consumption frame prefer annuities to other non-annuitized 
products, and the reverse holds for the investment frame. For example, 
Brown et al. (2008) find that 21 percent of participants in the 
investment frame compared to 72 percent in the consumption frame prefer 
the life annuity to a savings account.
    Finally, very recent working papers suggest that the decision to 
annuitize may also be influence by past market returns. Using 
administrative data, Chalmers and Reuter (2009) and Previtero (2010) 
find an inverse relationship between past market returns and the 
probability of annuitization. Agnew, Anderson, and Szykman (2010) find 
similar evidence using a laboratory experiment.
    These early results suggest that using behavioral finance to 
explain annuity demand is a promising area for future research. As more 
becomes known about the psychology behind this decision, there are 
opportunities for plan providers to devise products and programs that 
make annuities more attractive. However, as Brown (2008) points out, 
the irreversibility of the annuity decisionmakes this a more 
challenging task. For example, simple plan solutions used in the 
accumulation phase such as choosing optimal defaults are more difficult 
to implement in the case of annuities because the decision cannot be 
undone.

                           FINANCIAL LITERACY

    One reason that individuals may succumb to behavioral biases is 
that they lack financial literacy and are subsequently overwhelmed by 
the decisions they face. Widespread evidence demonstrates that there is 
a substantial lack of financial literacy both in the United States and 
abroad (Lusardi and Mitchell, 2007). If people do not understand their 
financial choices or cannot grasp general financial concepts, they can 
easily make mistakes and may be more likely to fall back on simple 
heuristics.
    This could easily be the case with investment in company stock and 
``mixed'' target date investing. An earlier section of this chapter 
raised these asset allocation issues. In both cases, evidence suggests 
that individuals may not understand these assets. Several studies 
demonstrate that individuals often do not realize that investment in 
company stock is riskier than investing in the market (for example, 
Agnew and Szykman, 2005; Lusardi and Mitchell, 2008). Benartzi (2001) 
reports that 84 percent of the respondents in a Morningstar survey made 
this mistake. In addition, a recent study by Envestnet finds that 40 
percent of respondents in a small survey strongly agreed or somewhat 
agreed that target date funds provide a guaranteed return, while 30 
percent agreed that they could save less money using these vehicles and 
still have sufficient funds to retire (Behling, 2009). Additional 
studies show misunderstanding of other basic products.
    Yet more than general financial literacy is important to pension 
participants. How well individuals understand their own plan features 
is also paramount. Choi, Laibson, and Madrian (2008b) find that 21 
percent of participants who contribute at a rate below the match 
threshold knew their match rate compared to 41 percent of those above 
the match threshold in their sample. According to Chan and Stevens 
(2006), individuals who are knowledgeable about their plan features are 
five times more responsive to plan features than the average 
individual.
    One issue facing plan sponsors is that efforts designed to help 
investors, such as simplifying investment materials or reducing plan 
choices, may be ineffective for the financial illiterate. For example, 
Agnew and Szykman (2005) use a laboratory experiment to test how the 
number of investment choices and information presentation influence 
decisionmaking. While reducing the number of choices decreased feelings 
of information overload for those with above-average financial 
literacy, it did nothing for those with below-average literacy. They 
remained simply overwhelmed. Not surprisingly, individuals with below-
average financial knowledge were more likely in the Agnew and Szykman 
study to choose the default option than those with above-average 
knowledge (20 percent versus 2 percent), suggesting that low literacy 
may make individuals more susceptible to biases.
    As the shift toward defined contribution plans continues, improving 
financial literacy becomes increasingly important. However, evidence is 
mixed about the success of current educational efforts. While employer-
sponsored seminars suggest that individuals have good intentions to 
improve savings behavior after attendance, there is growing evidence 
that they do not follow through with their intentions (Clark and 
d'Ambrosio, 2008). Choi et al. (2002) find that after one seminar 
nearly every worker not participating in the plan indicated his or her 
intention to join, but only 14 percent actually followed through. In 
addition, individuals do not seem to learn from the experiences of 
others. Choi, Laibson, and Madrian (2005) find that even when Enron 
employees were losing their retirements because of investing in company 
stock, there was little change in company stock holdings by employees 
in other 401(k) plans.
    Educators must also consider that individuals tend not to be 
interested in financial matters or financial planning, and this leads 
to inattention. MacFarland, Marconi, and Utkus (2004) find that at 
least half of their sample of retirement investors had limited interest 
in topics often presented in current financial education programs. 
Additionally, Lusardi and Mitchell (2006) discover that only 18.5 
percent of their sample was able to determine how much they needed to 
save, develop a savings plan, and actually stick to it. In addition, 
individuals may not even realize that they lack financial literacy and 
therefore need assistance. Agnew and Szykman (2005) find that certain 
groups (for example, low-income individuals) have a low correlation 
between their own perceived knowledge and their score on a literacy 
test. Lusardi and Tufano (2009) find similar evidence for older 
individuals.
    This suggests that educators must recognize psychological biases 
and be creative in their approach to teaching. Tufano and Schneider 
(2008) provide a review of existing financial literacy programs that 
include new and innovative approaches for low- and moderate-income 
families. In addition, Lusardi (2008) provides insights into improving 
the effectiveness of programs in the United States, and Fox, 
Bartholomae, and Lee (2005) present information regarding the 
importance of financial education evaluation.

                        SUMMARY AND CONCLUSIONS

    The retirement research literature provides solid evidence that 
behavioral biases influence every financial decision related to 
retirement. In view of the documented lack of financial literacy and 
interest in retirement planning, overwhelmed investors often resort to 
simple heuristics. The findings in the literature clearly show that 
even the most subtle details in plan design influence behavior. A 
successful working relationship between practitioners and academics in 
this field has resulted in numerous plan design changes that have 
improved savings outcomes. While the literature in this field is now 
extensive, there is still more work to be done, particularly related to 
the distribution phase of retirement and the role of annuities. In 
addition, financial education programs can become more effective by 
incorporating what is known about behavioral biases and investor 
psychology. Given the increasing responsibility of individuals for 
their own retirement, the behavioral literature should continue to grow 
quickly for years to come and motivate further successful changes to 
plan design.

                          DISCUSSION QUESTIONS

    1. Given participants' documented behavioral biases in retirement 
decisionmak-
ing, should plan sponsors and policymakers focus on automating plan 
design to avoid common mistakes made by plan participants, or work on 
improving financial education?
    2. Until recently, there has been little behavioral research 
related to the distribution phase of retirement, and specifically 
annuities. Discuss some possible behavioral theories that might explain 
the annuity puzzle.
    3. Investing a large portion of one's wealth in an employer's 
company stock is contrary to sound investment principles. Discuss some 
theories that might explain this questionable investment behavior.
    4. Discuss three successful changes to plan design that have 
improved savings outcomes, and explain how they relate to behavioral 
finance. Are there any associated drawbacks?

                               References

Agnew, Julie R. 2006. Do behavioral biases vary across individuals? 
    Evidence from individual level 401(k) data. Journal of Financial 
    and Quantitative Analysis 41:4, 939-61.
Agnew, Julie R. 2007. Personalized retirement advice and managed 
    accounts: Who uses them and how does advice affect behavior in 
    401(k) plans? Working Paper, College of William and Mary.
Agnew, Julie R., Lisa Anderson, Jeff Gerlach, and Lisa Szykman. 2008. 
    Who chooses annuities: An experimental investigation of gender, 
    framing and defaults. American Economic Review 98:2, 418-22.
Agnew, Julie R., Lisa Anderson, and Lisa Szykman. 2010. An experimental 
    study of the effect of prior market experience on annuitization and 
    equity allocations. Working Paper, College of William and Mary.
Agnew, Julie R., and Pierluigi Balduzzi. 2009. The reluctant retirement 
    trader: Do asset returns overcome inertia? Working Paper, College 
    of William and Mary.
Agnew, Julie R., Pierluigi Balduzzi, and Annika Sunden. 2003. Portfolio 
    choice and trading in a large 401(k) plan. American Economic Review 
    93:1, 193-215.
Agnew, Julie R., and Lisa R. Szykman. 2005. Asset allocation and 
    information overload: The influence of information display, asset 
    choice, and investor experience. Journal of Behavioral Finance 6:2, 
    57-70.
Agnew, Julie R., Lisa Szykman, Steve Utkus, and Jean Young. 2009. 
    Literacy, trust and 401(k) savings behavior. Working Paper, Center 
    for Retirement Research at Boston College, Boston College.
Ameriks, John, and Stephen P. Zeldes. 2001. How do household portfolio 
    shares vary with age? Working Paper, Columbia University.
Behling, Ellie, 2009, Planadvisor Web site: http://www.planadviser.com/
    research/article.php/4285, May 6.
Benartzi, Shlomo. 2001. Excessive extrapolation and the allocation of 
    401(k) accounts to company stock. Journal of Finance 56:5, 1747-64.
Benartzi, Shlomo, Ehud Peleg, and Richard H. Thaler. 2008. Choice 
    architecture and retirement savings plans. Working Paper, UCLA.
Benartzi, Shlomo, and Richard Thaler. 2001. Naive diversification 
    strategies in retirement savings plans. American Economic Review 
    91:1, 79-98.
Benartzi, Shlomo, and Richard Thaler. 2002. How much is investor 
    autonomy worth? Journal of Finance 57:4, 1593-616.
Benartzi, Shlomo, and Richard Thaler. 2003. Using behavioral economics 
    to improve diversification in 401(k) plans: Solving the company 
    stock problem. Working Paper, UCLA.
Benartzi, Shlomo, and Richard Thaler. 2007. Heuristics and biases in 
    retirement savings behavior. Journal of Economic Perspectives 21:3, 
    81-104.
Bertrand, Marianne, Sendhil Mullainathan, and Eldar Shafir. 2006. 
    Behavioral economics and marketing in aid of decisionmaking among 
    the poor. Journal of Public Policy and Marketing 21:2, 8-23.
Block, Lauren, and Punam Anand Keller. 1995. When to accentuate the 
    negative: The effects of perceived efficacy and message framing on 
    intentions to perform a health-related behavior. Journal of 
    Marketing Research 32:2, 192-203.
Brown, Jeffrey R. 2008. Understanding the role of annuities in 
    retirement planning. In Overcoming the saving slump: How to 
    increase the effectiveness of financial education and savings 
    programs, (ed.) Annamaria Lusardi, 178-208. Chicago: University of 
    Chicago Press.
Brown, Jeffrey R., Jeffrey R. Kling, Sendhil Mullainathan, and Marian 
    V. Wrobel. 2008. Why don't people insure late-life consumption? A 
    framing explanation of the under-annuitization puzzle. American 
    Economic Review 98:2, 304-09.
Brown, Jeffrey R., Nellie Liang, and Scott Weisbenner. 2006. 401(k) 
    matching contributions in company stock: Costs and benefits for 
    firms and workers. Journal of Public Economics 90:6-7, 1315-346.
Brown, Jeffrey R., Nellie Liang, and Scott Weisbenner. 2007. Individual 
    account investment options and portfolio choice: Behavioral lessons 
    from 401 (k) plans. Journal of Public Economics 91:10, 1992-2013.
Carroll, Gabriel D., James Choi, David Laibson, Brigitte C. Madrian, 
    and Andrew Metrick. 2009. Optimal defaults and active decisions. 
    Quarterly Journal of Economics 124:4, forthcoming.
Chalmers, John and Jonathan Reuter. 2009. How do retirees value life 
    annuities? Evidence from Public Employees. Working paper.
Chan, Sewin, and Ann Huff Stevens. 2006. What you don't know can't help 
    you: Pension knowledge and retirement decisionmaking. Working 
    Paper, New York University.
Choi, James J., David Laibson, and Brigitte Madrian. 2005. Are 
    empowerment and education enough? Underdiversification in 401(k) 
    plans. Brookings Papers on Economic Activity 2, 151-98.
Choi, James J., David Laibson, and Brigitte Madrian. 2009. Reducing the 
    complexity costs of 401(k) participation through Quick 
    EnrollmentTM. In Developments in the economics of aging, (ed.) 
    David A. Wise, 57-82. Chicago: University of Chicago Press.
Choi, James J., David Laibson, and Brigitte C. Madrian. 2008a. Mental 
    accounting and portfolio choice: Evidence from a flypaper effect. 
    Working Paper, Harvard University.
Choi, James J., David Laibson, and Brigitte C. Madrian. 2008b. $100 
    bills on the sidewalk: Suboptimal investment in 401(k) plans. 
    Working Paper, Harvard University.
Choi, James J., David Laibson, Brigitte C. Madrian, and Andrew Metrick. 
    2002. Defined contribution pensions: Plan rules, participant 
    decisions and the path of least resistance. In Tax policy and the 
    economy, (ed.) James M. Poterba, 67-113. Cambridge, MA: MIT Press.
Choi, James J., David Laibson, Brigitte C. Madrian, and Andrew Metrick. 
    2004. For better or for worse: Default effects and 401(k) savings 
    behavior. In Perspectives on the economics of aging, (ed.) David A. 
    Wise, 81-121. Chicago: University of Chicago Press.
Choi, James J., David Laibson, Brigitte C. Madrian, and Andrew Metrick. 
    2009. Reinforcement learning and savings behavior. Journal of 
    Finance, forthcoming.
Choi, James J., David Laibson, and Andrew Metrick. 2002. How does the 
    internet affect trading? Evidence from investor behavior in 401(k) 
    plans. Journal of Financial Economics 64:3, 397-421.
Clark, Robert, and Madeleine d'Ambrosio. 2008. Adjusting retirement 
    goals and savings behavior: The role of financial education. In 
    Overcoming the saving slump: How to increase the effectiveness of 
    financial education and savings programs, (ed.) Annamaria Lusardi, 
    237-56. Chicago: University of Chicago Press.
Cohen, Lauren. 2009. Loyalty-based portfolio choice. Review of 
    Financial Studies 22:3, 1213-45.
Cronqvist, Henrik, and Richard H. Thaler. 2004. Design choices in 
    privatized social-security systems: Learning from the Swedish 
    experience. American Economic Review 94:2, 424-28.
Diamond, Peter, and Botond Koszegi. 2003. Quasi-hyperbolic discounting 
    and retirement. Journal of Public Economics 87:9-10, 1839-72.
Duflo, Esther, and Emmanuel Saez. 2002. Participation and investment 
    decisions in a retirement plan: The influence of colleagues' 
    choices. Journal of Public Economics 85:1, 121-48.
Duflo, Esther, and Emmanuel Saez. 2003. The role of information and 
    social interactions in Retirement Plan Decisions: Evidence from a 
    randomized experiment. Quarterly Journal of Economics 118:3, 815-
    42.
Engstrom, Stefan, and Anna Westerberg. 2003. Which individuals make 
    active investment decisions in the new Swedish pension system? 
    Journal of Pension Economics and Finance 2:3, 225-45.
Even, William E., and David A. Macpherson. 2008. Pension investments in 
    employer stock. Journal of Pension Economics and Finance 7:1, 67-
    93.
Fox, Jonathan, Suzanne Bartholomae, and Jinkook Lee. 2005. Building the 
    case for financial education. Journal of Consumer Affairs 39:1, 
    195-214.
Guiso, Luigi, Paola Sapienza, and Luigi Zingales. 2008. Trusting the 
    stock market. Journal of Finance 63:6, 2557-600.
Hu, Wei-Yin, and Jason S. Scott. 2007. Behavioral obstacles to the 
    annuity market. Financial Analysts Journal 63:3, 71-82.
Huberman, Gur. 2001. Familiarity breeds investment. Review of Financial 
    Studies 14:3, 659-80.
Huberman, Gur, and Wei Jiang. 2006. Offering versus choice in 401(k) 
    plans: Equity exposure and number of funds. Journal of Finance 
    61:2, 763-801.
Huberman, Gur, and Paul Sengmueller. 2004. Performance and employer 
    stock in 401(k) plans. Review of Finance 8:3, 403-43.
Iyengar, Sheena S., and Mark R. Lepper. 2000. When choice is 
    demotivating: Can one desire too much of a good thing? Journal of 
    Personality and Social Psychology 79:6, 995-1006.
Johnson, Eric J., and Daniel Goldstein. 2003. Do defaults save lives? 
    Science 302:5649, 1338-9.
Kahneman, Daniel, and Tversky, Amos. 1984. Choices, values and frames. 
    American Psychologist 39:4, 341-50.
Laibson, David. 1997. Golden eggs and hyperbolic discounting. Quarterly 
    Journal of Economics 112:2, 443-377.
Lusardi, Annamaria (ed). 2008. Overcoming the saving slump: How to 
    increase the effectiveness of financial education and savings 
    programs. Chicago: University of Chicago Press.
Lusardi, Annamaria, and Olivia S. Mitchell. 2006. Financial literacy 
    and planning: Implications for retirement well-being. Pension 
    Research Council Working Paper, PRC WP 2006-1, The Wharton School.
Lusardi, Annamaria, and Olivia S. Mitchell. 2007. Financial literacy 
    and retirement preparedness: Evidence and implications for 
    financial education. Business Economics 42:1, 35-44.
Lusardi, Annamaria, and Olivia S. Mitchell. 2008. Planning and 
    financial literacy: How do women fare? American Economic Review 
    98:2, 413-7.
Lusardi, Annamaria, and Peter Tufano. 2009. Debt literacy, financial 
    experiences, and overindebtedness. Working Paper, Harvard Business 
    School.
Lusardi, Annamaria, Punam Anand Keller, and Adam M. Keller. 2008. New 
    ways to make people save: A social marketing approach. In 
    Overcoming the saving slump: How to increase the effectiveness of 
    financial education and savings programs, (ed.) Annamaria Lusardi, 
    209-36. Chicago: University of Chicago Press.
Lynch, Anthony W., and Pierluigi Balduzzi. 2000. Predictability and 
    transaction costs: The impact on rebalancing rules and behavior. 
    Journal of Finance 55:5, 2285-309.
MacFarland, Donna M., Carolyn D. Marconi, and Stephen P. Utkus. 2004. 
    ``Money attitudes'' and retirement plan design: One size does not 
    fit all. In Pension design and structure: New lessons from 
    behavioral finance, (eds.) Olivia S. Mitchell and Stephen P. Utkus, 
    97-120. New York: Oxford University Press.
Madrian, Brigitte C., and Dennis F. Shea. 2001. The power of 
    suggestion: Inertia in 401(k) participation and savings behavior. 
    Quarterly Journal of Economics 116:4, 1149-87.
Mitchell, Olivia S., Gary R. Mottola, Stephen P. Utkus, and Takeshi 
    Yamaguchi. 2006. The inattentive participant: Portfolio trading 
    behavior in 401(k) plans. Pension Research Council Working Paper, 
    PRC WP 2006-5, The Wharton School.
Mitchell, Olivia S., Gary R. Mottola, Stephen P. Utkus, and Takeshi 
    Yamaguchi. 2008. The dynamics of lifecycle investing in 401(k) 
    plans. Pension Research Council Working Paper, PRC WP 2008-01, The 
    Wharton School.
Mottola, Gary R., and Stephen P. Utkus. 2009. Flight to safety? Market 
    volatility and target-date funds. Research Note March, 1-4.
Muelbroek, Lisa. 2002. Company stock in pension plans: How costly is 
    it? Working Paper 02-058, Harvard Business School.
Munnell, Alicia H., Annika Sunden, and Catherine Taylor. 2001/2002. 
    What determines 401(k) participation and contributions? Social 
    Security Bulletin 64:3, 64-75.
Nessmith, William E., and Stephen P. Utkus. 2008. Target-date funds: 
    Plan and participant adoption in 2007. Vanguard Center for 
    Retirement Research, Volume 33.
Nessmith, William E., Stephen P. Utkus, and Jean A. Young. 2007. 
    Measuring the effectiveness of automatic enrollment. Vanguard 
    Center for Retirement Research, Volume 31.
Odean, Terrance. 1999. Do investors trade too much? American Economic 
    Review 89:6, 1279-98.
O'Donoghue, Ted, and Matthew Rabin. 2001. Choice and procrastination. 
    Quarterly Journal of Economics 116:1, 121-60.
Poterba, James M. 2003. Employer stock and retirement savings accounts. 
    American Economic Review 93:2, 398-404.
Poterba, James M., Steven F. Venti, and David A. Wise. 2008. The 
    changing landscape of pensions in the United States. In Overcoming 
    the saving slump: How to increase the effectiveness of financial 
    education and savings programs, (ed.) Annamaria Lusardi, 17-46. 
    Chicago: University of Chicago Press.
Previtero, Alessandro. 2010. Stock market returns and annuitization. 
    Working Paper, UCLA Anderson School of Management.
Rogers, Todd, and Max H. Bazerman. 2008. Future lock-in: Future 
    implementation increases selection of ``should'' choices. 
    Organizational Behavior and Human Decision Process 106:1, 1-20.
Samuelson, William, and Richard Zeckhauser. 1988. Status quo bias in 
    decisionmaking. Journal of Risk and Uncertainty 1:1, 7-59.
Sethi-Iyengar, Sheena, Gur Huberman, and Wei Jiang. 2004. How much 
    choice is too much? Contributions to 401(k) retirement plans. In 
    Pension design and structure: New lessons from behavioral finance, 
    (eds.) Olivia S. Mitchell and Stephen P. Utkus, 83-95. Oxford 
    University Press.
Sunstein, Cass R., and Richard H. Thaler. 2003. Libertarian paternalism 
    is not an oxymoron. University of Chicago Law Review 70:4, 1159-
    202.
Szykman, Lisa, Don Rahtz, Michael Plater, and Greg Goodwin. 2005. 
    Living on the edge: Financial services for the lower socio-economic 
    strata. Working Paper, College of William and Mary.
Thaler, Richard H. 1985. Mental accounting and consumer choice. 
    Marketing Science 4:3, 199-214.
Thaler, Richard H. 1999. Mental accounting matters. Journal of 
    Behavioral Decision Making 12:3, 183-206.
Thaler, Richard H., and Shlomo Benartzi. 2004. Save more tomorrow: 
    Using behavioral economics to increase employee saving. Journal of 
    Political Economy 112:1, 164-87.
Thaler, Richard H., and Hersh M. Shefrin. 1981. An economic theory of 
    self-control. Journal of Political Economy 89:2, 392-406.
Thaler, Richard H., and Cass R. Sunstein. 2003. Libertarian 
    paternalism. American Economic Review 93:2, 175-9.
Tufano, Peter, and Daniel Schneider. 2008. Using financial innovation 
    to support savers: From coercion to excitement. Finance Working 
    Paper No. 08-075, Harvard Business School.
Tversky, Amos, and Daniel Kahneman. 1981. The framing of decisions and 
    the psychology of choice. Science 221:4481, 453-8.
Van Rooij, Maarten, Annamaria Lusardi, and Rob Alessie. 2007. Financial 
    literacy and stock market participation. NBER Working Paper Number 
    13565.
Viceria, Luis M. 2008. Life-cycle funds. In Overcoming the saving 
    slump: How to increase the effectiveness of financial education and 
    savings programs, (ed.) Annamaria Lusardi, 140-77. Chicago: 
    University of Chicago Press.
Wray, David. 6/12/2009. Telephone Conversation with President of the 
    Profit Sharing/401k Council of America. Source of Statistics: 
    Annual Surveys of Profit Sharing and 401(k) Plans. The Profit 
    Sharing/401k Council of America.
Yamaguchi, Takeshi, Olivia S. Mitchell, Gary R. Mottola, and Stephen P. 
    Utkus. 2006. Winners and losers: 401(k) trading and portfolio 
    performance. Pension Research Council Working Paper, PRC WP 2006-
    26, The Wharton School.

                            ABOUT THE AUTHOR

    Julie Agnew is an associate professor of finance and economics at 
the Mason School of Business, the College of William and Mary, and co-
director of the Center for Interdisciplinary Behavioral Finance 
Research (CIBFR). Her research focuses on behavioral finance and its 
relationship to decisions made in individuals' retirement plans. 
Several leading academic journals have published her research using 
data from 401(k) plans and laboratory experiments. Often cited in the 
business press, she frequently speaks at academic and practitioner 
conferences in the United States and abroad. She is a TIAA-CREF 
Institute Fellow, a member of the Defined Contribution Plans Advisory 
Committee (DCPAC) for the Virginia Retirement System, and a research 
associate for the Center for Retirement Research at Boston College. Dr. 
Agnew earned her BA in economics from the College of William and Mary 
and her PhD in finance from Boston College. A former Fulbright Scholar 
to Singapore, she began her professional career in investment banking 
and equity research at Salomon Brothers and Vector Securities 
International.

    The Chairman. Thank you, Dr. Agnew.
    Now we'll turn to Dr. Brown. Welcome to Washington.
    Mr. Brown. Thank you very much.
    The Chairman. He's in Chicago. You're in Chicago right now. 
He couldn't make it.
    Mr. Brown. Yes, technically, I'm in Champaign, IL.
    The Chairman. Dr. Brown, welcome again. Your testimony will 
be part of the record. Please proceed.

   STATEMENT OF JEFFREY R. BROWN, Ph.D., WILLIAM G. KARNES, 
    PROFESSOR OF FINANCE, UNIVERSITY OF ILLINOIS AT URBANA--
          CHAMPAIGN COLLEGE OF BUSINESS, CHAMPAIGN, IL

    Mr. Brown. Thank you.
    Chairman Harkin, Senator Enzi, and members of the 
committee, thank you for the opportunity to discuss the 
important issue of retirement income security with you today. I 
sincerely wish that I could be there in person, but the severe 
winter weather we've had here recently made travel impossible, 
so I'm grateful to the committee staff, as well as our own IT 
support here at Illinois for allowing me to testify from a 
distance.
    I'd like to briefly summarize a few key points from the 
longer written testimony that I previously submitted. The 
primary overriding message that I would like to leave you with 
today is that I think it's time that we shift America's 
conversation about retirement away from one that is solely 
focused on wealth accumulation, to one that is focused on the 
broader concept of retirement income security.
    As was noted earlier, saving, investment and wealth 
accumulation are absolutely critical for retirement security. 
But they're not enough. True retirement security also depends 
upon having part of one's retirement resources in the form of a 
guaranteed income stream that cannot be outlived. In short, we 
need to focus on more than just getting people to retirement. 
We need to focus on getting people through retirement.
    Life annuities are products that allow individuals to 
convert a lump sum of wealth into a guaranteed income stream 
that will last for as long as they live. There are decades of 
economic theory that indicate how valuable annuities can be as 
part of a retiree's retirement plan. Unfortunately, 
annuitization is on the decline, for a number of reasons which 
I outlined in my testimony, including the declining role of 
Social Security going forward, the shift we've witnessed over 
the last few decades away from defined benefit plans, which 
typically paid out in the form of annuity, and to defined 
plans, like 401(k)s, that more often than not do not even offer 
access to guaranteed income options. Third, the limited size of 
the retail annuity market.
    In order to encourage annuitization, I'd like to briefly 
mention three ideas, and there are a few others in my testimony 
that I submitted earlier. The first is captured in the Lifetime 
Income Disclosure Act, with, which a couple members of your 
committee were instrumental in putting forth in the last 
session. I've conducted academic research that shows that 
Americans' views about annuities are very strongly influenced 
by the framework in which this information is presented. For 
example, when viewed through a frame that emphasizes wealth 
accumulation and investment features, only 20 percent, only 
about 1 in 5 individuals, think that an annuity looks 
attractive in comparison to a simple savings account. The same 
holding finds when comparing an annuity against other financial 
products.
    In contrast, when viewed through what we call a consumption 
frame, or a frame that really emphasizes one's ability to buy 
the goods and services that they want during retirement, 70 
percent of individuals find an annuity attractive.
    This is a pretty remarkable shift in preferences from 
what's essentially a very small change in the way the 
information is portrayed or presented. This research suggests 
that when plan sponsors are issuing their annual or their 
quarterly statements about, for example, 401(k) balances, that 
what we should really also be telling them is how much 
retirement income those accounts will be able to provide. The 
Lifetime Income Disclosure Act could be a very important step 
in reframing the conversation and discussion in a way that 
encourages annuitization. This legislation, which, if properly 
designed, could be implemented at very minimal cost to 
employees and employers, and could have a very significant 
impact on the way individuals evaluate how well-prepared they 
are for retirement.
    Second, I would strongly encourage Congress to rethink the 
required minimum distribution rules. These rules were written, 
really, from a tax policy perspective to ensure that qualified 
plan assets were eventually subject to income taxation. But, 
from a perspective of retirement income policy, these rules 
were poorly conceived. They encourage individuals to deplete 
their assets more quickly than may be optimal, and they have a 
number of unintended consequences, including discouraging some 
forms of annuitization.
    Finally, I think there's a strong case to be made for 
extending the idea of automatic enrollment to the annuitization 
phase, and thinking about automatically annuitizing a portion 
of qualified plan assets in order to overcome some of the 
institutional and behavioral biases that currently stand in the 
way of retirement income security.
    However, as I outline in my testimony, there are a number 
of reasons to perhaps go slowly on this front. Before Congress 
implements such a policy, I think it would be very useful to 
have more research to help us understand both the intended and 
unintended consequences for both plan participants and plan 
sponsors.
    One thing that Congress and, or the Department of Labor 
could do would be to provide some safe harbor protection to 
employers who would be willing to be leaders or innovators in 
this area so that we could all learn from their experience.
    Just to conclude, I certainly agree that it is 
extraordinarily important that we have policies in place to 
encourage participation in retirement plans, to encourage 
saving, to encourage wealth accumulation. But we also need to 
ensure that public policy is equally supportive of the second 
half of the retirement income security equation, which is 
encouraging individuals to annuitize some of their retirement 
assets so that they can have an adequate income stream for as 
long as they live.
    Thank you for the opportunity to speak to you today, and I 
look forward to your questions.
    [The prepared statement of Mr. Brown follows:]

             Prepared Statement of Jeffrey R. Brown, Ph.D.

    Chairman Harkin, Senator Enzi, and members of the committee, I am 
Jeffrey Brown, the William G. Karnes Professor of Finance in the 
College of Business at the University of Illinois at Urbana--
Champaign.\1\ I thank you for the opportunity to appear before you 
today to discuss the important issue of how to improve our system of 
retirement security.
---------------------------------------------------------------------------
    \1\ I also serve as Director of the Center for Business and Public 
Policy at the University of Illinois, as Associate Director of the NBER 
Retirement Research Center, and as a Trustee for TIAA. Previously, I 
served on the Social Security Advisory Board (2006-8), on the staff of 
the President's Commission to Strengthen Social Security (2001), and as 
Senior Economist with the President's Council of Economic Advisers 
(2001-2). All views presented in this testimony are my own, and do not 
reflect the views of any of the organizations with which I am 
affiliated.
---------------------------------------------------------------------------
    To start, I would like to ask a question, Why do we save for 
retirement?
    This may seem like a simple question. There are many possible 
answers, but I would like to focus on two, each of which sounds 
plausible, but each of which has very different implications for the 
optimal design of a retirement system:

    1. ``We save so that we will have a large sum of money in our 
account at retirement.''
      OR
    2. ``We save so that will have the income we need to maintain our 
standard-of-living throughout retirement.''

    The first answer focuses solely on the accumulation of wealth. In 
essence, it focuses only on getting people to retirement.
    The second answer focuses on getting people not just to retirement, 
but also through retirement.
    In this sense, the second answer is much more complete. It 
recognizes that while saving, investment and wealth accumulation are a 
necessary condition for retirement security, they are not sufficient. 
This second answer recognizes that true retirement security also 
depends on having part of one's retirement resources in the form of a 
guaranteed income stream that cannot be outlived.
    Ensuring that one's nest egg lasts a lifetime is a complex 
financing planning exercise because people face uncertainty about asset 
returns, interest rates, inflation, expenses and, perhaps most 
importantly, uncertainty about how long one can expect to live.
    The good news is that financial products exist that help 
individuals address these complex planning problems. For example, a 
life annuity is an insurance product that allows an individual to 
convert a lump-sum of wealth into a stream of income that is guaranteed 
to last for as long as an individual (and if desired, his or her 
spouse) lives.\2\ As I will discuss below, economic theory suggests 
that life annuities can be enormously valuable to retirees.
---------------------------------------------------------------------------
    \2\ For purposes of this testimony, I am using the term ``life 
annuity'' to refer to products which guarantee income for as long as 
the annuitant lives. This excludes some products with the term 
``annuity'' in the name that do not offer life-contingent payouts.
---------------------------------------------------------------------------
    Unfortunately, the U.S. retirement system has evolved over the past 
30 years into a system that focuses almost entirely on wealth 
accumulation. Many of our public policies, our plan designs, and our 
financial planning tools have been designed as if the first answer 
provided above--that we save in order to have a large sum of money in 
our account at retirement age--is the end goal.
    We have paid far too little attention to the equally important 
issue of how to ensure that one's accumulated resources are sufficient 
to last for a lifetime.
    The one, over-riding message that I would like to leave you with 
today is that we need to shift America's conversation about retirement 
away from a conversation solely focused on wealth accumulation and to a 
conversation about the broader concept of retirement income security.
    In support of this message, I will proceed with my testimony as 
follows:

    First, I will provide a very brief overview of the academic 
research that indicates the importance of guaranteed lifetime income.
    Second, I will briefly discuss a number of factors--including the 
declining role of Social Security, the shift from defined benefit (DB) 
to defined contribution (DC) plans, and the limited size of the private 
annuity market in the United States--which suggest that Americans are 
becoming increasingly exposed to longevity risk (i.e., the risk of 
outliving one's resources).
    Third, I will briefly describe research that I, and co-authors, 
have undertaken on how the psychological concept of ``framing'' can 
have an important impact on people's perception of the value of life 
annuities. I will specifically discuss the implications of this 
research for the Lifetime Income Disclosure Act.
    Last, but not least, I would like to briefly discuss a few other 
policies that might be used to encourage retirement income security.

  1. THE IMPORTANT ROLE OF LIFE ANNUITIES: A BRIEF REVIEW OF ECONOMIC 
                                 THEORY

    Within the economics discipline, there is a very large research 
literature exploring the role of life annuities in improving the well-
being of consumers who face uncertainty about their length-of-life. 
While the literature is too large to fully summarize here, a fair 
characterization of the core theoretical result is that life annuities 
can substantially improve consumer well-being.\3\
---------------------------------------------------------------------------
    \3\ The seminal paper in this area is by Yaari (1965). The results 
of his paper were generalized and extended in Davidoff, Brown and 
Diamond (2005).
---------------------------------------------------------------------------
    This finding arises from two related benefits: First, annuities 
provide a higher rate of return, contingent on survival, than otherwise 
similar, but non-annuitized, assets. This arises because the resources 
of those annuitants who die relatively early can be used to increase 
the rate of return to those who live longer than average. This extra 
return is sometimes referred to as the ``mortality premium.''
    Second, life annuities guarantee that the annuitant will receive 
income for as long as he or she lives.
    In essence, life annuities eliminate the need to trade-off two 
risks for retirees: (i) that if they consume too much, they will run 
out of money before they die, and (ii) that if they want to set aside 
enough money to live on even if they live to extremely advanced ages, 
they must consume much less during the entirety of their retirement 
years.
    Simulation studies have suggested that the benefits from having 
access to life annuities is equivalent--in terms of consumer well-
being--to a substantial increase in financial wealth.\4\
---------------------------------------------------------------------------
    \4\ See, for example, Mitchell et al. (1999) and Brown (2001).
---------------------------------------------------------------------------
         2. ARE AMERICANS UNDER-INSURED AGAINST LONGEVITY RISK?

    There are several factors suggesting that Americans are becoming 
increasingly exposed to the risk of outliving their resources (a risk 
sometimes referred to as ``longevity risk.'')
    Let's begin with the U.S. Social Security system. While there are 
many ways to describe the Social Security system, for today's purposes 
it is instructive to understand that it is the only meaningful source 
of inflation-indexed, annuitized income available to most retirees in 
the United States. From this perspective, Social Security plays a vital 
role in providing a guaranteed income floor.
    However, Social Security will play a declining role going forward. 
Even without further policy changes, the combination of the increasing 
normal retirement age, and the fact that Medicare premiums--which are 
netted out of Social Security checks for most Americans--are rising 
faster than inflation, means that net Social Security replacement rates 
are projected to decline in the future.\5\
---------------------------------------------------------------------------
    \5\ See, for example, Munnell 2003.
---------------------------------------------------------------------------
    Furthermore, we must face that undeniable fact that the United 
States is on an unsustainable fiscal path, and that the growth in 
entitlement programs like Social Security (and even more importantly, 
Medicare and Medicaid) must be reined in.
    Taken together, these facts make it apparent that future 
generations of retirees should not be relying on Social Security to 
play as large of a role in their retirement as the program has done for 
past generations.
    Turning to the private sector, the past three decades have 
witnessed a substantial decline in the role of DB plans in the private 
sector. Further, many of those that remain are substantially 
underfunded. This fact poses risks both for retirees (in particular, 
those whose benefits exceed the amount insured by the Pension Benefit 
Guaranty Corporation, or PBGC) as well as for taxpayers (given the 
large projected deficits facing the PBGC that will ultimately require 
an infusion of taxpayer funds to avoid a reduction in insured 
benefits).
    In the place of DB plans, we have seen the 401(k) plan emerge as 
the dominant form of retirement plan in the United States. While 401(k) 
plans have many advantages for both employers (e.g., reduced funding 
uncertainty) and employees (e.g., increased portability), the recent 
financial crisis and recession clearly exposed the long-standing 
inadequacy of appropriate risk management in the 401(k) system. A 
prominent example of this is the near absence of guaranteed income 
options in the typical 401(k) plan. It has been estimated that fewer 
than one-in-four 401(k) plans offer participants the option of 
converting a portion of their account balances into life annuities.
    Further, many Americans do not have access to a retirement plan of 
any kind through their employer. For these individuals, as well as for 
those with 401(k) plans that lack an annuity option, it is possible to 
purchase guaranteed lifetime income through the retail market. However, 
the market for such products continues to be small relative to the 
retirement income needs of Americans.
    As a result of these factors, it is clear that the relative dearth 
of opportunities to insure against longevity risk is a serious issue 
for U.S. retirement policy.

        3. ``FRAMING ANNUITIES''--IMPLICATIONS FOR PUBLIC POLICY

    Much of the academic research on annuities has focused on how to 
explain the lack of a more robust annuity market. Having concluded that 
this literature was limited in its ability to explain empirical 
regularities in this market, I began to work with several colleagues to 
explore various psychological, or behavioral, biases that might be 
limiting the demand for annuities.
    In 2008, we published a paper in the American Economic Review 
(Brown, et al. 2008) showing that individuals' perceptions of life 
annuity products are strongly influenced by what psychologists and 
economists call ``framing.'' Framing is simply the idea that people may 
be induced to change the behavior by changing the way information is 
communicated (even when the actual information content is itself 
unchanged.) \6\
---------------------------------------------------------------------------
    \6\ In perhaps the most famous example of framing, Tversky and 
Kahneman (1981) showed that citizens would choose very different 
policies to address a public health threat depending upon whether the 
information was provided in terms of ``lives saved'' or ``lives lost.''
---------------------------------------------------------------------------
    Our paper was motivated by a simple insight. As noted earlier, the 
dominant frame in the U.S. retirement system is an ``investment,'' or 
wealth accumulation, frame. Individuals have been conditioned to think 
of account balances as the appropriate yardstick for measuring their 
retirement preparedness.
    In such an investment frame, life annuities look relatively 
unattractive. Indeed, they may even look risky, because the amount of 
money that one receives depends on how long one lives.
    In contrast, when viewed through a frame that emphasizes the 
ability to sustain monthly consumption during retirement, life 
annuities are quite attractive because they can guarantee this outcome.
    In short, whereas annuities look risky in an investment frame, they 
look like a valuable form of insurance in a consumption frame.
    In our study, we conducted a survey of over 1,300 Americans age 50+ 
and presented them with information about various financial products. 
We randomly divided individuals into groups that were presented with 
the same information but in different frames.
    Our results were supportive of the importance of framing. When 
viewed through an investment frame, only about 20 percent of 
individuals thought a life annuity looked attractive in comparison to a 
simple savings account. When viewed through a consumption frame, over 
70 percent of individuals preferred the annuity. This is a remarkable 
shift for what is essentially a small change in the way the information 
is portrayed.
    This research has led me to believe that one simple, but 
potentially very powerful, way to encourage annuitization is to change 
the way that plan sponsors communicate about participants' 401(k) 
plans. Put simply, rather than focusing solely on how much wealth one 
has accumulated in their plan, we should be telling people how much 
retirement income their account balance will be able to provide them.
    This research has implications for the bipartisan Lifetime Income 
Disclosure Act that was introduced in 2009. Indeed, the research 
suggests that the core idea of that act--to require that plan sponsors 
provide information about the retirement income that their 401(k) could 
provide--could help re-frame the retirement discussion in a way that 
encourages annuitization. If enacted, this legislation could have--over 
time--a very significant impact on the way individuals evaluate their 
preparedness for retirement.
    Of course, it is important that the provisions of the Lifetime 
Income Disclosure Act, if passed, be enacted in a manner that keeps the 
message simple for consumers. It is equally important that the rules be 
structured to keep the cost of compliance to a minimum, particularly 
for small businesses. We must remember that employers who offer 
retirement plans to their employees do so voluntarily. Thus, even the 
most well-intentioned policy can end up harming retirement security if 
it imposes costs on employers that lead them to stop offering an 
employer-provided plan.
    Fortunately, the Lifetime Income Disclosure Act should impose 
minimal, if any, additional costs on employers, at least as long as it 
is efficiently designed and implemented. For example, in order to avoid 
forcing small employers to become annuity valuation experts, the 
Department of Labor could provide a very simple table or formula (i.e., 
based on standard annuitant mortality tables and an interest rate 
assumption) that converts a given account balanced into a monthly or 
annual annuitized income stream. If implemented in a simple way, plan 
sponsors would be sending the same quarterly or annual statements that 
they do now, but with two numbers (account balance and monthly income) 
instead of one (account balance).
    Of course, some plan sponsors may wish to provide more 
comprehensive or detailed projections--and, indeed, some already do so. 
The act should certainly allow plan sponsors to continue to provide 
such projections. In addition, plan sponsors who offer annuities in 
their plan should be permitted to use actual annuity payouts from their 
plan, rather than the example payouts.

    4. OTHER POLICIES TO ENCOURAGE ANNUITIZATION IN QUALIFIED PLANS

    In addition to reporting 401(k) and other DC balances in terms of 
monthly income, there are numerous other policies that Congress could 
consider to encourage annuitization. As noted above, it is extremely 
important to weigh the advantages of these approaches against the 
potential costs of imposing additional burdens on plan sponsors.
    a. Required Minimum Distributions (RMD's)
    The required minimum distributions appear to have been designed 
solely from the perspective of tax policy--in essence, with the goal of 
ensuring that the income is eventually subject to income taxation.
    From the perspective of retirement policy, these rules run counter 
to the idea of promoting retirement income security. The rules 
encourage individuals to spend their resources down more quickly than 
is, in all likelihood, optimal for most retirees. Indeed, simple 
simulations have shown that following some of the RMD rules can lead to 
the virtual exhaustion of all of one's retirement wealth long before 
individuals reach their maximum possible lifespan.\7\
---------------------------------------------------------------------------
    \7\ For example, see Brown et al (1999).
---------------------------------------------------------------------------
    As such, Congress may wish to consider how to design the RMD's from 
the perspective of promoting retirement income security.
    b. Annuities in Qualified Default Investments Alternatives (QDIAs)
    The Pension Protection Act took a very important step in 
recognizing that individuals who are automatically enrolled into a 
401(k) or other qualified plan should have their contributions placed 
in a well-diversified investment vehicle.
    Looking to the future, I would like to see the market evolve in the 
direction of incorporating lifetime income into these life-cycle or 
target-date funds.
    To put it simply, in addition to thinking about the ``glide path'' 
for the allocation between stocks and bonds (and other asset classes), 
I would like to see products which also automate the ``glide path'' 
between annuitized and non-annuitized assets. The gradual, and partial, 
annuitization of accounts would be a very natural and very welcome 
evolution of these plans.
    I am not suggesting that such an approach be mandated. Rather, I 
would like to see such an approach encouraged--or at least not 
discouraged--through the regulatory framework. Providing plan sponsors 
with clear fiduciary safe harbors for providing such products is one 
important consideration.
    c. Auto-Annuitization
    Research in behavioral economics has clearly demonstrated the 
strong influence that default options can have on behavior. As you 
know, the Pension Protect Act took very important steps in expanding 
automatic enrollment in 401(k) plans, as well as the automatic 
escalation of contributions.
    Looking to the future, it is reasonable to ask whether ``automatic 
annuitization'' is a natural next step in this progression.
    As I have written elsewhere, this idea has considerable merit as a 
way of overcoming the policy, institutional and behavioral biases that 
currently stand in the way of annuitization.\8\
---------------------------------------------------------------------------
    \8\ In 2009, I authored a white paper (Brown, 2009) on behalf of 
the American Council of Life Insurers in which I discussed the case for 
an automatic annuitization policy, and outlined how such a program 
could be implemented. While that research was sponsored by the ACLI, 
the views and opinions expressed therein are mine alone and do not 
necessarily represent the views of the ACLI or its member companies.
---------------------------------------------------------------------------
    However, the merits of this idea must also be weighed against the 
fact that designing an ``auto annuity'' program is much more complex 
than automating other aspects of the 401(k). There are several reasons 
for this. First, as noted above, most 401(k) plans sponsors do not even 
offer life annuities through their plans. Thus, it is not a simple 
matter of defaulting individuals into an already-existing option. 
Requiring plan sponsors to provide access to annuities would impose 
additional cost and complexity on plan sponsors.
    Second, unlike the state of affairs prior to the passage of the 
Pension Protection Act--when academic researchers had produced 
substantial empirical evidence about the effects of automatic 
enrollment--we have very little empirical evidence on how an annuity 
default would work in practice. Ideally, some plan sponsors will take 
the lead in voluntarily adopting such an approach in the coming years 
so that the program can be carefully evaluated. But no such studies 
exist today in a U.S. context.
    Third, the ``downside risks'' to consumers in an automatic annuity 
program are greater than is the case with automatic enrollment. Under 
auto-enrollment, if an individual determines that it was a mistake to 
be enrolled, they can ``undo'' it by pulling their money out of the 
qualified plan at a relatively low cost. In contrast, typical life 
annuity contracts are often irreversible (to avoid adverse selection), 
and it could actually harm some consumers if they were automatically 
annuitized when an annuity was clearly sub-optimal for them (e.g., 
someone with a terminal disease and a short remaining life expectancy).
    It is possible to design an auto-annuity program that overcomes 
this and other problems (see Brown 2009 for an example of such a 
framework). However, doing so is necessarily a complex exercise.
      All-in-all, while I continue to believe that automatic 
annuitization may be a desirable feature of DC plans, it is premature 
to consider such an approach in the near-term. At minimum, we need much 
more research to fully understand both the intended and unintended 
effects on plan sponsors and participants.
    With this in mind, policymakers might wish to consider whether 
there are steps that could be taken to encourage plan sponsors to 
implement such a program voluntarily. For example, it might be 
desirable to provide fiduciary safe harbors for plan sponsors who wish 
to do so.

                             5. CONCLUSIONS

    It is important to continue to pursue policies that encourage 
Americans to save and invest. However, it is equally important that 
plan participants have the knowledge, the opportunity, and the access 
to products which allow them to convert their accumulated savings into 
a secure source of retirement income. The Lifetime Income Disclosure 
Act would be a useful first step in changing the national conversation 
about retirement in this direction.
    Thank you for the opportunity to speak here today. I would be happy 
to take your questions.

                               References

Brown, Jeffrey R. 2009. ``Automatic Lifetime Income as a Path to 
    Retirement Income Security.'' White Paper prepared for the American 
    Council of Life Insurers.
Brown, Jeffrey R. 2001. ``Private Pensions, Mortality Risk, and the 
    Decision to Annuitize,'' Journal of Public Economics, Vol. 82, No. 
    1, October, pp. 29-62.
Brown, Jeffrey R., Jeffrey Kling, Sendhil Mullainathan, and Marian 
    Wrobel. 2008. ``Why Don't People Insure Late Life Consumption? A 
    Framing Explanation of the Under-Annuitization Puzzle.'' American 
    Economic Review, 98(2): 304-9.
Brown, Jeffrey R., Olivia S. Mitchell, James M. Poterba, and Mark J. 
    Warshawsky. 1999. ``Taxing Retirement Income: Non-Qualified 
    Annuities and Distributions from Qualified Accounts,'' The National 
    Tax Journal, Vol. LII, No. 3, September, pp. 563-91.
Davidoff, Thomas, Jeffrey R. Brown, and Peter Diamond. 2005. 
    ``Annuities and Individual Welfare,'' The American Economic Review, 
    Vol 95, No. 5, December, pp. 1573-90.
Mitchell, Olivia S., James M. Poterba, Mark J. Warshawsky and Jeffrey 
    R. Brown. 1999. ``New Evidence on the Money's Worth of Individual 
    Annuities,'' The American Economic Review, Vol. 89, No. 5, December 
    1999, pp. 1299-1318.
Munnell, Alicia H. 2003. ``The Declining Role of Social Security.'' 
    Boston College Center for Retirement Research. Just the Facts Issue 
    No. 6.
Poterba, James M. 1997. ``The History of Annuities in the United 
    States.'' NBER Working Paper No. 6001.
Tversky, Amos and Daniel Kahneman. 1981. ``The Framing of Decisions and 
    the Psychology of Choice.'' Science, 211(4481): 453-58.
Yaari, Menahem E. 1965. ``Uncertain Lifetime, Life Insurance, and the 
    Theory of the Consumer.'' Review of Economic Studies 32(2): 137-50.

    The Chairman. Thank you so much, Dr. Brown. Can you hear us 
and see us all right?
    Mr. Brown. I sure can. Thank you.
    The Chairman. Thank you very much. We'll start our 5-minute 
rounds of questioning. I'll start with Ms. Chatzky. I think 
there's a lot of misinformation about investments. A lot of 
fact sheet marketing materials. I get them in the mail and I 
look at them, and they sound great. I don't understand a lot of 
them, to tell you the truth, and I'm sure a lot of other people 
don't. But, where does a person go to really get good, 
impartial advice about 401(k) plans?
    Ms. Chatzky. They tend to go to the benefits department at 
their employer. They tend to read Money Magazine, USA Today, 
listen to what's happening on CNBC. The answer is, they often 
wind up with information overload, feeling confused and unable 
to make a decent decision. Anything that we can do to simplify 
the process, to make the defaults better--and I understand all 
of the limitations of the target date funds, but I think that 
was definitely a step in the right direction. To provide 
children as young as middle school, but definitely into high 
school and college, with more financial education so that they 
understand how to read the basic documents and how to speak the 
basic language, will be moving the ball forward.
    The Chairman. Anyone else want to respond to that question? 
Where do you get more impartial information? That's readable. 
It's so confusing. I'm a college-educated person, graduate, law 
degree, and I can't understand it. How do you expect the 
average person out there that doesn't have any financial 
information or advice to understand?
    Ms. Agnew. Well, I have a Ph.D., and I know that some of 
the information that I'm presented is also confusing to read. 
Oftentimes, it's because plans are thinking about, perhaps, 
some legal concerns that, it needs to be written in a language 
where they will not be sued. But unfortunately, what happens 
then is that it's written in a way that the average person 
can't understand it. So, it really, it does need to be 
simplified.
    I do believe that, you said middle school. I even think 
getting into elementary school and teaching lessons about 
savings, making these things familiar, so that when individuals 
are actually faced with a decision when they graduate from 
college, that they're able to understand it, is incredibly, 
incredibly important.
    There are ways to make the information easier. There was a 
lot of work done in the nutritional labeling research area. I 
think most of us can go to a cereal box and understand how to 
compare calories and sugar content. And we need to be able to 
do that when we're looking at plans. We need to make this 
information very clear.
    I do know that there are efforts out there right now. I 
know the Social Security Administration has funded a financial 
literacy research consortium, and the job there is to produce 
literacy products that are unbiased, that help people make a 
good decision. I think those are worthy efforts that should be 
pursued.
    Then, finally, I'd like to say, Anna Maria Lucardi at 
Dartmouth has done some very, very good research. One of her 
research pieces was using social marketing to get people to 
participate in 401(k) plans. Basically, she held focus groups 
with the people at Dartmouth, found out what was keeping them 
from participating, came up with a one-pager with steps on what 
they needed to do to participate--it was an automatic 
enrollment--saw how that worked, tweaked it again with more 
focus groups, and eventually was able to significantly increase 
participation by simply making things easier to understand, and 
the steps that need to be taken easier to understand. So, I 
think there's a lot we could do.
    Ms. Lucas. Chairman Harkin, I would like to just add that I 
think what we're getting at is the reason why auto features 
have become so critical to 401(k) plans and other defined 
contribution plans. Because it's not only difficult for people 
to understand this very complex topic. They don't have time, 
they don't have the interest. And so, they're really faced with 
the notion that, I have many things on my plate, and this is my 
last priority. To simplify, sometimes it's not even enough. 
What we do find is that people will respond to something as 
simple as a postcard that says, if you want to enroll in this 
plan, check the box. Something as simple as that, they will 
respond to. But, as you said, getting reams of paper is, 
they're not going to go through it. It's going to be a very low 
priority.
    The good news is that as people get older and retirement 
approaches, say, in their 40s, and they do begin to pay a lot 
more attention to this, they will use things like managed 
accounts, and actually input their circumstances and situation 
into the software to understand what is a better allocation for 
them than a simple target date fund. But for young people, the 
decisionmaking has to be so simple and so straightforward. 
That's the reason that defaults are critical for people in 
their twenties who are just starting out.
    The Chairman. Dr. Brown, did you want to weigh in on this 
at all?
    Mr. Brown. Sure. Yes. I think I agree with most everything 
that's been said. I will say that, I think it was Ms. Chatzky 
that pointed out that one of the first places people go is to 
their HR office, to their employer.
    The Chairman. Yes.
    Mr. Brown. I think it's very important to remember in this 
process that the employer does play oftentimes a very important 
intermediary role, and, in many cases is a trusted source of 
information. For good reasons, we have put restrictions on what 
employers can do in terms of providing advice and so forth to 
the employees. But I think we need to be careful not to go so 
far as to make employers or plan sponsors, who would like to 
provide access to unbiased advice, be concerned about doing so 
out of fear of violating fiduciary rules.
    Employers really do play a central role in all of this, and 
I think the more we can do to make that easier for them to pass 
along useful information, the better.
    The Chairman. Well, thank you all very much. My time has 
well run over. But, you raise a question about, how about the 
small employer that doesn't have an HR department.
    Senator Enzi. That's right.
    The Chairman. But, I'll yield to Senator Enzi.
    Senator Enzi. Thank you, Mr. Chairman. I'm working on a 
solution to that. Yes. I'm going to have a bill that will allow 
small businesses to group together to do a 401(k) plan, so that 
they can hire some expertise that can handle all the problems 
that come up with that.
    Ms. Lucas, in your testimony you mentioned some problems 
with non-discrimination and other tests that have to be done. 
Could you run through a few of those? Just mention them? 
Problems that employers have to run into in order to be able to 
do one of these 401(k)s?
    Ms. Lucas. Yes. One of the things that was very attractive 
with the Pension Protection Act was the non-discrimination 
testing safe harbor that allowed plan sponsors who used 
automatic enrollment and several other criteria, to not have to 
engage in non-discrimination testing, which can be costly and 
difficult for them, and an obstacle for plan sponsors. These 
safe harbors that eliminate the need to do non-discrimination 
testing is very, very important.
    I think the non-discrimination testing safe harbor was very 
well received. But the way that it was implemented within the 
legislation was quite conservative, and so you expect that, 
because people could opt out, maybe you would have a pretty 
high contribution escalation cap, so that people who are 
automatically enrolled, could be escalated to 15 or 20 percent 
of pay, which is quite a robust rate, and if they didn't like 
to be escalated up to 15 or 20 percent of pay over time, they 
could simply opt out. Instead, the cap was put at a very low 10 
percent of pay. Why that seems strange to me was that when we 
did analysis of participants that we saw who had actually gone 
in and proactively selected to choose what they would like 
their automatic contribution escalation cap to be, they chose a 
much higher number than 10 percent. They wanted to be escalated 
up to 15 percent or more. There's an artificial barrier that's 
been put in these safe harbors that are actually inhibiting 
people from saving as much as they might naturally want to.
    Senator Enzi. Thank you. As the accountant, I have some 
more technical questions, but I won't put those out for 
everybody. But I would appreciate an answer from you when we 
get them to you.
    Professor Agnew, I understand that you ran some focus 
groups, and when they were presented with the normal 3 inches 
of paper that employers have to give employees, that there's a 
little bit of stress involved, and sometimes they break down 
crying. I'd like to know what you think we ought to do to 
relieve that stressful situation. What kind of things could we 
be doing?
    Ms. Agnew. Well, it was very enlightening. We've done a 
series of focus groups for several different projects. I was 
actually surprised at the reactions when we asked people to 
express their feelings towards making retirement decisions. If 
you see in my testimony, there's a picture at the very end. I 
know others can't see it. But it's a little bit disturbing. 
People obviously are very concerned. This picture shows a 
fellow getting shaved. He's in a chair, and the person shaving 
has a long knife, but looks very distracted, like he's about to 
cut his throat. This is how some people, or, many people in our 
focus group are feeling about these things. I think that what 
we learn from these focus groups is, a lot of people just were 
saying, there are so many different choices, I just don't know 
what to do. I'd like somebody to help me and to tell me what to 
do.
    There was also this feeling of mistrust. It was 
interesting, one of our focus groups was asking about target-
date funds. One thing that you find with target-date funds is, 
they're designed that you just invest in one target-date fund. 
You're going to retire in 2020, and so you buy the 2020 fund. 
But we find, actually, that there are many people that invest 
in multiple target-date funds, or target-date funds and 
additional funds. What we've learned is that many people don't 
understand what the target-date funds is. Some did, and were 
actually trying to dial up the risk and were just fine. Others 
had trust issues, and they didn't want to put it all in one 
fund. They wanted to move it around. A certain level of 
mistrust is a bit healthy, especially in this environment. But 
if it's because you just don't understand the product, I think 
we need to do better in terms of explaining these products. 
Everybody on the panel has already mentioned, people have 
limited time--
    Senator Enzi. Yes.
    Ms. Agnew [continuing]. And have limited interest. So, we 
have to figure out how to catch them. Once again, going back to 
the marketers. The marketers know how to get people in 30 
seconds to think about things that they might not normally 
think about. By engaging them with financial experts, I think 
we can get important messages across.
    Senator Enzi. Well, the Department of Labor has refused to 
embrace some of the new technologies that could provide more 
information to people, too. They consider some of the 
comparison tools to be investment advice, and that has some 
fiduciary duties attached to it, too, that I think we need to 
solve. I have a lot more questions, but my time has run out.
    The Chairman. Interesting.
    Senator Bingaman.
    Senator Franken. Yes. Thank you all for your testimony.
    The Chairman. I said Senator Bingaman.
    Senator Franken. Oh. I'm sorry, Senator.
    [Laughter.]
    Bingaman, Franken, they just sounded the same to me. I'm 
sorry.
    [Laughter.]
    Senator Bingaman. I'll jump ahead of you here.
    Senator Franken. You're ahead of me.

                     Statement of Senator Bingaman

    Senator Bingaman. Let me thank the Chairman and Senator 
Enzi for having the hearing. I think it's very useful.
    Dr. Brown spoke about the Lifetime Income Disclosure Act. 
Johnny Isakson, Herb Kohl, and I introduced the bill today. I 
wish all members would look at that. I think it's a very good 
proposal. What it does, basically, is provide the opportunity 
for us to do the same things with regard to 401(k) plans that 
Congress did in 1989 with regard to Social Security. Back in 
1989, Congress enacted a provision leading all Americans to 
receive annually a benefits statement from Social Security that 
tells you how much you can expect to receive each month when 
you retire. What our bill does is to say we should do the same 
things with 401(k) plans. We should have protections for the 
employer to hold them harmless, as long as they follow the 
procedures set forth by regulations. I think it's a very good 
bill. I hope we can get it passed in this Congress.
    Mr. Brown, you spoke about this bill in your testimony. 
Maybe you'd want to make another comment on it.
    Mr. Brown. Sure. I'm quite supportive of this bill. As I 
mentioned in my opening remarks, our research suggests that 
when you get people to think in terms of monthly income in 
retirement, they have different preferences. They express 
different views about what's important to them. I think it's a 
more accurate view, in the sense that, ultimately, when we're 
planning for retirement, that monthly or annual consumption is 
what we're ultimately saving in order to provide for. I think 
that this act could be a very important first step in sort of 
changing the conversation, and changing the way that people 
think about retirement planning.
    Senator Bingaman. Yes. My understanding is that this 
information changes people's view of their retirement assets, 
and in doing so, it encourages them to save more, which is one 
of the big things that I think I was hearing from the witnesses 
we ought to be doing.
    Ms. Chatzky.
    Ms. Chatzky. That's absolutely one place where I think it 
could be incredibly useful, but not the only place. Senator 
Enzi spoke about the student loan problem that we're having in 
this country right now, and the fact that the student loan debt 
is out of control. I believe that if students were shown the 
monthly pay back amount that they were taking on at the time 
they borrowed, we would make big strides to solving that 
problem, too.
    Senator Bingaman. That's another good suggestion. Let me 
also--
    Mr. Brown. Could I add one other comment?
    Senator Bingaman. Yes. Sure.
    Mr. Brown. In general, there is a phenomenon known in the 
behavioral economics literature that people are not very good 
at being able to translate lump sums of wealth into flows of 
income, and vice versa. Ms. Chatzky's right, that that is a 
more general phenomenon than what we have just in the context 
of retirement income. But this is clearly a case where it's 
really, really important. If you ask people, What would you 
think if you had $100,000 in retirement? They feel like that's 
a lot of money. Then when you tell them what that translates 
into in terms of the actual monthly income that it can provide, 
suddenly they don't feel so rich anymore. That's where the 
incentive to save more comes in. So, I think it's quite 
important.
    Senator Bingaman. Great.
    Ms. Chatzky, you also talked about the Auto IRA bill. Well, 
that's another bill I hope all Senators will look at. I 
introduced that in the last Congress. We're going to try to 
introduce it again, but we'd like to get some cosponsors. We 
think that that bill is designed in a way that does not put a 
burden on small business, but does provide an opportunity for 
folks that don't have 401(k)s to still put some money away in a 
retirement account before they actually get it in their 
paycheck. That's the purpose behind it. I think it would be a 
major step for the American worker.
    Ms. Lucas, there is a T. Rowe Price study on the same issue 
that Dr. Brown was just talking about on the question of 
savings patterns that people will follow in their 401(k) plans 
based on their knowledge about what this translates into on a 
monthly basis. Are you familiar with that?
    Ms. Lucas. Well, there have been a number of recordkeepers, 
T. Rowe Price among them, who have done an excellent job of 
providing projections for participants for their retirement 
needs. So, you'd look on their Web site. It might be on their 
statement. It tells you, if you continue to save at this level, 
given what we know about you, at retirement here's what it will 
translate into monthly income. It might even have a gap 
analysis on it in case you are not saving enough. It might say, 
you need to save X amount more in order to reach a 80 percent 
income replacement level. So, there's a lot of good work that's 
already being done, very sophisticated work. It would be my 
hope that whatever the bill is that is being proposed would 
also provide a fiduciary safe harbor for this type of analysis 
that's already being done by many of the recordkeepers.
    Senator Bingaman. Thank you very much, Mr. Chairman.
    [Prepared statement of Senator Bingaman follows:]

                 Prepared Statement of Senator Bingaman

    I would like to thank Chairman Harkin and Senator Enzi for 
convening this afternoon's hearing, to highlight how insights 
from behavioral economics can be applied to raise our Nation's 
retirement savings rate.
    As this committee is well aware, defined benefit pension 
plans--to which employers make regular fixed contributions--
have become relatively rare. So those who receive any form of 
workplace retirement account are increasingly offered the 
opportunity to contribute to defined contribution plans, like 
401(k)s, to which their employer may or may not provide a 
matching contribution.
    But the shift from DB to DC plans means that plan 
participants need to be even more proactive in planning for 
their retirement. Right now, 401(k) plan statements typically 
provide a total account balance, but not a monthly income 
equivalent. This leaves many participants unprepared to 
evaluate whether they are saving adequately to maintain cost of 
their current standard of living in retirement. Take for 
instance a 55-year-old secretary at a law firm in Albuquerque 
with a $75,000 balance in her 401(k). That balance may be 
significantly larger than her annual salary. But while she may 
think that is enough to carry her through retirement, in 
reality, even when combined with Social Security, that $75,000 
probably will not last long enough. We need to ensure that she 
has the benefit of full information.
    And to address this challenge, I am pleased to have joined 
today with our fellow committee member, Senator Isakson, as 
well as with Senator Kohl, to reintroduce the Lifetime Income 
Disclosure Act. Our bill would require DC plans annually to 
include ``lifetime income equivalents'' on benefit statements 
they already provide employees. A lifetime income equivalent is 
the monthly payment that would be made if the employee's total 
account balance were used to buy a guaranteed lifetime income 
product that begins at the plan's normal retirement age.
    In 1989, Congress passed legislation that has resulted in 
all Americans receiving an annual Social Security benefit 
statement, which informs them how much to expect in monthly 
benefit payments at retirement. Our bill would round out the 
retirement income picture. Knowing the amount of monthly income 
they can expect from Social Security and their DC plan will 
help employees determine whether they are on the path to a 
secure retirement. Undoubtedly, many will decide to dial up 
their contribution rates.
    We have worked hard to ensure that this proposal does not 
impose a burden or potential liability on employers. So the act 
directs that within a year, the Department of Labor must issue 
assumptions that employers may use in converting a lump sum 
amount into a lifetime income equivalent. DOL would further be 
directed to issue, within a year, a model disclosure. And the 
act also provides employers with a clear path to avoid any 
liability whatsoever.
    Mr. Chairman, our proposal is a small step, but one that 
can make a significant difference in beginning to tackle a key 
policy challenge. I am pleased that the act enjoys the support 
of many leading voices on retirement policy, from AARP to the 
National Women's Chamber of Commerce to American Society of 
Pension Professionals and Actuaries, the Nation's leading 
association of retirement plan professionals. And I look 
forward to working with you, Chairman Harkin, with Senator 
Enzi, and with all of our colleagues on this committee to enact 
this common-sense approach into law.

    Senator Enzi [presiding]. Senator Murkowski.

                     Statement of Senator Murkowski

    Senator Murkowski. Thank you, Mr. Chairman. Senator 
Bingaman, I am looking at the legislation that you have 
introduced, the Lifetime Income Disclosure Act, as one way to 
again help with this financial literacy. I guess, a question 
that I would ask of you, Mr. Brown, and something that I'm 
still looking into, is this concern about any associated 
liability that may attach about assumptions that are made. Can 
you just speak to that as an issue?
    Mr. Brown. Sure. I'd be happy to.
    I always think it's very important to step back and 
remember that plan sponsors are not under any obligation to 
offer a plan in the first place, and that under current law 
they're not obligated to offer a lifetime income option. 
Anytime that we impose fiduciary risk or a liability on them 
we've run the risk, no matter how well intended the regulation 
is, we've run the risk of providing a disincentive for them to 
be providing these plans in the first place. So, I think it's 
very important that we keep an eye on that at all times.
    I think, in this context I think it can be easily handled 
in the sense that if, for example, the Department of Labor were 
to lay out a very simple formula or a table that plan sponsors 
can look up and simply say, well, if an individual has, say, 
$100,000 in their account, here is the amount that they can now 
report to that individual as an example of the monthly income 
that they would receive, and that as long as a plan sponsor 
follows that, it essentially provides them a safe harbor so 
that they are protected from those fiduciary concerns.
    However, I do agree with the prior comment as well, that 
there are a number of companies out there that are actually 
doing a very sophisticated job, probably a more sophisticated 
job than we would expect through a safe harbor provision. I 
think it's also important that we allow those companies to 
continue to do that as well.
    I do think it's an important concern, but I think it's one 
that could be quite easily addressed in the legalization.
    Senator Murkowski. Let me ask you this as a general 
question, some discussion about financial literacy amongst 
young people, and how we effectively reach out to them. I think 
we're all learning the benefits, certainly, of the social media 
and Facebook and Twitter, and some of the other methods of 
communication, videos out there on YouTube. Are we using these 
tools in any kind of an education effort to reach out to the 
kids that are my kids age, that really could care less at this 
point in time about their future retirement? What's available 
to them? Ms. Chatzky.
    Ms. Chatzky. I have a 16-year-old and a 13-year-old.
    Senator Murkowski. So, you're engaged.
    Ms. Chatzky. So, I'm in there.
    Senator Murkowski. Yes.
    Ms. Chatzky. One of the things that I know from dealing 
with my own kids and their friends is, you have to get them 
where they are. You have to reach them at a point where they 
actually have a reason to want the information, even if their 
reason isn't the same as your reason. I have believed for quite 
some time that a very effective way to move some financial 
education through the channels would be to put 10 to 20 
financial education questions on the driver's license permit 
exam.
    [Laughter.]
    Senator Murkowski. There you go.
    Ms. Chatzky. Well, and it makes economic sense, because 
auto insurers price based on your credit score. So, if we could 
work together with them to show that these kids who pass this 
section of the exam are more likely to have better credit 
scores simply because they understand the information, then 
parents who pay those premiums would have an incentive to get 
their kids to study for that portion of the test.
    Senator Murkowski. Interesting.
    Any other suggestions, Ms. Agnew? Got any great ideas?
    Ms. Agnew. Well, I think that's a fantastic idea. You 
definitely--I have three children, and you have to get them 
where they are. I do think that there are ways we might be able 
to integrate it into the school, but I'm not saying another 
requirement for the schools.
    I was talking to a superintendent of the school district 
yesterday, and they're tight-staffed, and to ask a teacher to 
come up with more to teach in a limited amount of time is a lot 
to ask for. But I think there's a lot that could be done with 
people in academia that could put together some off-the-shelf 
lessons that could be integrated into the school, that could 
pool and hit on standards that need to be met in math and 
social studies.
    I think that there are ways that we in academia can help 
the actual schools. Make it fun, though. It has to be fun. 
Worksheets don't work for 7-year-old boys,.
    Senator Murkowski. Well, and I know my time is up. But, I 
think an important thing to recognize is, we can't talk about 
investments unless you've saved for it. We save pennies with 
the kids when they're little, but then when they hit 17 and 19, 
like my boys are, they're saving for the car, and beyond that, 
there's not a lot that they are saving individually. As 
parents, we try to set the example--save for college, save for 
their future. But are we doing a better job generally with 
young people in encouraging them to save? I don't think that we 
are. But do the statistics prove me wrong?
    Ms. Lucas.
    Ms. Lucas. I'd like to go back to automatic enrollment 
again. The amazing thing about automatic enrollment is that, 
regardless of demographic group--young people, old people, low 
salary workers, high salary workers, across different ethnic 
groups--the opt-out rate is almost identical, and so we see 
people in their twenties who, if they were to save on their 
own, maybe half of them or less would save. Under automatic 
enrollment, closer to 90 percent are saving, just because of 
inertia. They are in the plan, and somehow, even though they've 
said, ``Oh, I can't afford to save.'' When it's taken out of 
their paycheck before they have an opportunity to spend it, 
suddenly they can afford to save.
    Senator Murkowski. So, we help them along initially with 
the enrollment.
    Ms. Lucas. I think automatic enrollment for young people is 
really one of the most effective ways to get them to save in 
the plan.
    Ms. Chatzky. We can do the same for our kids. If, it's 
parental. It's not systematic. If we want our kids to be 
savers, then we take part--saving money is no fun, but having 
money saved is a lot of fun. So, we force them into a position 
where we take part of their allowance, and that goes into 
savings. And when they see that money piling up, all of a 
sudden we can feel good about that.
    Senator Murkowski. Thank you, Mr. Chairman.
    The Chairman [presiding]. Thank you, Senator Murkowski.
    Senator Franken.

                      Statement of Senator Franken

    Senator Franken. Thank you, Mr. Chairman.
    Ms. Chatzky, Ms. Agnew, you both have been talking about 
financial literacy, and possibly teaching that in school. This 
committee is reauthorizing ESEA this year, we hope. I'd just 
like to ask you some questions about how to do that. You've 
been talking about it a little bit. I know we don't want to put 
another burden on people and require them to do another thing. 
But this seems to be a good--I like your idea about putting it 
in math. I liked your idea about putting questions about 
financial literacy for your driver's permit.
    I think we should be teaching home ec again, and home ec 
should really be home ec. It should be home economics, 
including how to cook healthy food, and fruits and vegetables, 
and the whole panoply of home economics and family economics.
    You know, we're talking today, really, about defined 
contribution plans because the defined benefit plans are 
basically going away. One, I just wanted to touch on Social 
Security a little bit, because Social Security is still a 
defined benefit plan. What percentage of people rely on Social 
Security, Ms. Chatzky, for almost all, or all of their 
retirement?
    Ms. Chatzky. I don't actually know the numbers off the top 
of my head.
    Senator Franken. Does anyone?
    Ms. Chatzky. Thirty-seven.
    Senator Franken. Thirty-seven percent. OK. And compared to 
other defined benefit pensions in this country, how's Social 
Security doing in terms of solvency, would you say?
    Ms. Chatzky. I would say there are an awful lot of people 
out there who are convinced that it won't be there for them.
    Senator Franken. That doesn't answer my question, though, 
really.
    Ms. Chatzky. If you look at the numbers, it's 2037 that 
it's supposed to, the trust fund is supposed to run out of 
money. At least, that's the last number that I saw. So, not 
well.
    Mr. Brown. Senator, can I jump in here?
    Senator Franken. Yes. Please.
    Mr. Brown. Yes. The difficulty in comparing Social Security 
to either private sector or public sector defined benefit plans 
is that both in the public and private sector, either by choice 
or by requirement, they're trying to fully fund their pensions. 
Social Security's not really designed as a fully funded 
retirement system. It's a pay-as-you-go system, where today's 
retirees are supported by the tax payments of today's workers. 
So, the difficulty facing Social Security is the fact that, 
because we don't do a lot of pre-funding, just the demographic 
changes that we have coming make that a difficult system to 
sustain without having tax rates rising. In a sense, even 
poorly funded State and public defined benefit plans are better 
funded than Social Security, in the sense that they actually 
have made an attempt to pre-fund the benefits.
    Senator Franken. Right. But, this was started in 1935, and 
has worked in this system. In 2037 Social Security doesn't run 
out of money, so, that's the day until which everyone is 
guaranteed the full benefit. And at that time--you said it 
exactly right--you're paying for your parents. It's a 
generation legacy that started then, right?
    Mr. Brown. That's correct.
    Senator Franken. Let me talk about annuities a little bit. 
We have some testimony in a Special Committee on Aging hearing 
that said that most seniors actually believe they're going to 
live a shorter period of time than they actually are, 
actuarially. Is that correct?
    Mr. Brown. There have been a number of academic studies 
done comparing expectations to actual survivor tables. What we 
find is that, on average, that's right. But what that disguises 
is, a large number of Americans are overly optimistic, and a 
large number overly pessimistic. So, there are a lot of people 
who fall under the category. There are others on the other 
side.
    Senator Franken. I know I'm out of time. I just want to ask 
one question. Can I ask one more question about annuities? Is 
distrust of financial institutions, that they're going to be 
there 20 years from now, a big part of people's reluctance to 
buy annuities?
    Mr. Brown. Yes. The concern about what economists call 
counterparty risk, the concern of whether the insurance company 
will be there, is something that we think is driving some 
consumers' aversion to annuities. Not a lot of empirical 
evidence to support just how important it is, but I certainly 
believe that it is a factor, and ever more so after the most 
recent recession and financial crisis in which some of the 
longstanding financial institutions ceased to exist. That is an 
issue that, there are some ideas out there about how to address 
it. But it's certainly one that needs some thought.
    Senator Franken. Thank you.
    Thank you, Mr. Chairman.
    The Chairman. Thank you.
    Senator Blumenthal.

                    Statement of Senator Blumenthal

    Senator Blumenthal. Just, first, about appealing to 
potential young drivers. I don't know whether you've been 
through the driver's application process with any of your 
children, but it can be a very trying time, and so, focusing 
their attention on retirement then may not be the best way to 
do it.
    [Laughter.]
    Having been through the process with four children.
    I want to raise a larger issue which concerns the 
confidence people have in the financial system these days. 
Having just been through a deeply traumatic experience, many of 
them losing their life savings, I'd be interested in your 
perspective on, No. 1, isn't it necessary to restore confidence 
in this system which has really betrayed so many of our 
seniors, as well as other age groups? In particular, to pursue, 
perhaps even more aggressively some of the regulatory reforms 
that the Congress adopted during the last session? Because many 
of these regulations, obviously, will be issued in the next 6, 
12 months.
    Ms. Lucas. I'd be happy to address that. At Callan 
Associates we have an index called the Callan DC Index, in 
which we track the movement of money across participants' 
plans. And while, certainly, participants did move money, more 
often than not, toward principal preservation vehicles during 
the financial crisis, we did see that the money was remarkably 
sticky within target-date funds. They were not moving money out 
of target-date funds. And in fact, every quarter throughout the 
financial crisis, there was net inflows into target-date funds. 
Further, there's very little evidence that people reduced their 
savings levels during the financial crisis.
    So, I think you can look at 401(k) participants' inertia as 
a very positive thing during times like that, that certainly 
they do not tend to react in a large number, they stick with 
their allocations and be very willing to continue to look to 
the long term, as opposed to having knee-jerk reactions.
    Senator Blumenthal. Do the rest of you concur on that view?
    Ms. Agnew. I do. I've done some research in inertia, and it 
is a fact that in some cases it actually is helpful with people 
not reacting. One study I did do using some data, though, did 
show that there was a very, very small portion of people that 
did have reactions. The problem was, inertia then took hold and 
they never switched back their allocations. So, you know, I do 
agree, as long as the institutions are acting correctly, I 
think it's good to instill confidence in people in the 
institutions.
    Senator Blumenthal. The other trend that, obviously, is at 
play here is the higher ratio of debt to wealth. I wonder if 
you could comment on whether you've seen any impact as a 
result, whether there's any research that shows any impact 
resulting from that current economic trend. Obviously, the debt 
ratios are coming down now. But, it's still an important 
factor.
    Ms. Chatzky. We know as consumer debt picked up the savings 
rate went down. I think if you look at whether it's mortgage 
debt or auto loan debt or credit card debt, debt is really a 
savings killer. Particularly, that high interest rate credit 
card debt. There are a number of pieces of research that would 
support that. We have seen the savings rate come back a bit 
over the last couple of years. I think we want to get on that 
band wagon, and we want to encourage people to soft-pedal the 
plastic, and really continue to put more away, if that's the 
path that they've gotten themselves on.
    Senator Blumenthal. So, soft-pedaling the plastic really is 
profoundly important, not only in an immediate economic sense, 
but also in terms of the long-term trends that you've 
identified?
    Ms. Chatzky. I believe that it is. We're starting to see, 
particularly in the younger generation, more of a reliance on 
debit, less of a reliance on credit, a shift toward the other 
products in the marketplace. Again, not enough education out 
there about what are the differences, what are the pros and the 
cons of all of these tools, because that's what they really 
are, and how to use them wisely. But I think things are moving 
in the right direction.
    Senator Blumenthal. My time is up. But I want to thank you 
for being here today and giving us this very, very important 
and helpful testimony.
    Thank you, Mr. Chairman.
    The Chairman. Thanks, Senator Blumenthal.
    Senator Whitehouse.

                    Statement of Senator Whitehouse

    Senator Whitehouse. Thank you, Chairman.
    First of all, thank you for what you've said about the need 
to clarify for folks who are looking at retirement what their 
real situation is, and give people a better appreciation of 
what they have to look forward to.
    I noticed in Ms. Chatzky's testimony, you said that 50 
percent of even, I think your phrase was ``good-earning baby 
boomers and Gen-Xers'' will run out of money in retirement. 
Some of the other figures you used were that 41 percent of 
Americans who are in the lowest income quartile, the lowest 
income, 25 percent, would run out of money in 10 years. Even in 
the top 25 percent income bracket, that 5 percent would run out 
money in 10 years, and 13 percent would run out of money in 20 
years. So, even for top earners I assume that actuarially 
somebody who's a top earner can be expected to live, on 
average, more than 20 years after retirement, correct?
    Ms. Chatzky. I think actuarially, I mean--
    Senator Whitehouse. That was the breakdown.
    Ms. Chatzky [continuing]. I don't know where the breakdown 
is. But I would assume, with better access to healthcare and 
the access to the best doctors, sure, those numbers would go 
up.
    Senator Whitehouse. So, for those people who are running 
out, those 50 percent of the population, their only safeguards 
at that point are Social Security and Medicare, correct?
    Ms. Chatzky. Correct.
    Senator Whitehouse. Without them, what?
    Ms. Chatzky. They move in with the kids.
    Senator Whitehouse. I'm sure a lot of kids will be thrilled 
to think about that.
    [Laughter.]
    At the time that they're running out, 10 years or 20 years 
after their retirement, do you have any information on what 
their earning capacity is at that point?
    Ms. Chatzky. I don't. This is an EBRI study that I was 
citing. I'd be happy to forward it to your office.
    Senator Whitehouse. Presumably, it's pretty negligible.
    Ms. Chatzky. Twenty years out, yes.
    Senator Whitehouse. Say, you've retired at 65, you're now 
85.
    Ms. Chatzky. I would say negligible.
    Senator Whitehouse. It's a tough time to be asked to go 
back into the job market, isn't it?
    Ms. Chatzky. Yes.
    Senator Whitehouse. So, it reinforces how vital Social 
Security and Medicare are to our safety net and to assuring 
that Americans have a decent standard of living in their old 
age.
    Ms. Chatzky. Absolutely.
    Senator Whitehouse. All right. I appreciate your testimony 
very much. Thank you all.
    The Chairman. Thank you, Senator Whitehouse.
    Senator Merkley.

                      Statement of Senator Merkley

    Senator Merkley. Thank you very much for the testimony from 
all of you. This is near and dear to my heart because when I 
was the director of a non-profit I wanted to encourage all my 
employees to start with the assumption that they would sign up 
and then decide later if they wanted to opt out, knowing from a 
variety of sources that they're much more likely to save 
especially if they start savings early in their career. We had 
a lot of young employees who we would help over the long term.
    I have had one concern about the default sign-up. That is, 
how a company goes about setting out the default allocation of 
the funds that are being saved. We had a company in Oregon, 
PGE, that had a situation where the employees' funds were 
largely invested in Enron stock, and there was a lot of risk to 
that concentration in a single area. So, are there any 
guidelines for companies that are kind of best practices about 
starting? If they're starting with a default option--and I 
understand they have to give 30 days notice to the employee, 
and give the employee an opportunity to change it--is there any 
kind of best practices guideline that encourages companies to 
start with, a diversified portfolio, or in some other way, 
reduce the risk profile of the choice?
    Ms. Lucas.
    Ms. Lucas. I would like to address that. I think one of the 
key features, and most important features, for a defined 
contribution perspective of the Pension Protection Act, was 
that it did provide a safe harbor called the Qualified Default 
Investment Alternative safe harbor, for plans that wanted to 
adopt automatic enrollment. It was hugely successful. It 
outlined that there are three possible, qualified default 
investment alternatives, target-date funds, asset allocation 
funds, and managed accounts, all of which are well-
diversified investment vehicles. Today, according to a recent 
survey that I saw, about 70 percent of plan sponsors are using 
target-date funds, highly diversified, well-managed funds for 
the qualified default investment alternative. If you look at 
prior to that, sometimes, indeed, company stock was the 
default, often it was stable value. So, plan sponsors were 
simply putting people in stable value at a 3 percent 
contribution rate, and then saying, ``Good luck getting to your 
retirement.'' So, this has been a very big improvement in 
getting people to save in a well-diversified plan.
    Senator Merkley. When you speak about safe harbor, 
essentially, let me describe what I think you mean, and then 
you can clarify if that's right. Companies were told, you're 
immune from lawsuits if you put folks into this structure as a 
default option. Additional legal protection. Is that what the 
safe harbor means?
    Ms. Lucas. Certain legal protections. The plan sponsor is 
liable for the selection of the fund, but the individual is 
responsible for any losses within the fund. So, the plan 
sponsor is not liable, as long as it's a prudent fund, for 
losses within that fund. It doesn't immunize them against 
lawsuits, but it forms a defense within a lawsuit.
    Senator Merkley. Anyone else want to come in on this?
    Earlier you addressed teenagers and how to do better 
financial education with teenagers. I wanted to ask you to 
address either the challenge of financial education for low-
income families, or financial education specifically for women, 
whether there is any distinction, or any special strategies or, 
for that matter, special strategies for men that we should be 
thinking about?
    Ms. Chatzky. I'll address the women question. I do think, 
and it's definitely controversial, because we know that stocks 
are not pink or blue, right? Money's green. It's definitely a 
controversial proposition. But, women are behind the 8 ball, 
because we live longer. We're the ones who still take breaks 
from the workforce to care for the kids and to care for older 
parents. As a result, our retirement balances, even if we have 
the same starting salary, tend to be lower than those of men. 
So, an argument should be made that women almost need the 
education more, to a greater degree. If you look at survey 
after survey, you'll see that women are not feeling prepared at 
all.
    There is an argument to be made for educating women in 
groups of women, that there are certain comfort zones where 
people feel more able to receive the information, more able to 
take it in. I believe that that, almost a Weight Watchers type 
model where people come together and they have a group, and 
they discuss the issue. Whether it's in churches, which have 
been a great place to receive this information over years, or 
schools, or other sorts of community outposts is, might be 
helpful. If we could come together on a single curriculum that 
would provide the information, through an organization like 
Jump$tart, or through the government, I think that would be 
very, very helpful. Because right now there are so many forces 
working toward the same direction, the same mission, but 
competing endeavors that a lot of times we find that we're 
getting in each other's way.
    Mr. Brown. Could I throw something in here?
    Senator Merkley. Yes.
    Mr. Brown. Thank you. There undoubtedly is important 
heterogeneity within the population in terms of how effective, 
and the type of financial education that's needed. This may 
sound a little self-serving coming from an academic researcher, 
but I think one of the important things that I would stress in 
all of this is how important it is to have well-designed 
research to actually assess the effectiveness of any financial 
literacy intervention.
    We do know that financial literacy programs can be 
effective, but they also can be quite expensive, and it's 
important if we have to stretch resources to dedicate to this 
that we really study that. Oftentimes, you know, studies will 
find that it's very simple things that get in the way of a 
program being effective. Dr. Agnew mentioned earlier the 
Financial Literacy Research Centers that are sponsored through 
Social Security. They're doing a lot of work in this area. 
There are other organizations doing that as well. I just 
thought that it's really critical as we move forward in this 
area.
    Senator Merkley. Thank you very much to all of you. My 
time's expired. I very much appreciate your testimony.
    The Chairman. Thank you, Senator.
    Ms. Chatzky, going back to a point that was raised earlier, 
I think by Mr. Franken, the Social Security trustees say that 
by 2037 the Social Security Trust Fund will then only be able 
to pay out 75 percent of benefits. It will not go broke.
    Ms. Chatzky. Right.
    The Chairman. And that 75 percent continues, and I don't 
know the answer. I think it's 25 years or 30 years until all 
the baby boomers die off, then it bounces back up slightly.
    Ms. Chatzky. OK.
    The Chairman. To the response that you gave about a lot of 
young people don't think it's going to be there. I run into 
that in town meetings all the time, and when I talk to young 
people, ask them if they believe that Social Security will be 
there for them, and not very many people raise their hands.
    I always like to inform them that, I ask them if they 
believe that the United States of America will exist, will even 
exist when they're that age. Every hand goes up. Well, I say to 
them, if the United States of America exists, your Social 
Security will be there for you, because it is the only 
retirement system backed by the full faith and credit of the 
U.S. Government. It has to pay it out. So, therefore, if the 
United States of America exists, Social Security will have to 
pay it out, because it is backed by the full faith and credit 
of the U.S. Government. None of these other retirement systems 
are. Financial institutions can go bankrupt, you can lose your 
money, all kinds of things. They're not backed by the full 
faith and credit of the U.S. Government. That's why I've always 
been such a strong supporter of a basic social safety net that 
is backed by the strength and power of who we are as a nation. 
And that's what Social Security is.
    Over and above that, you need some retirement security to 
have a little bit better lifestyle. You mentioned, correctly, 
that, I think, right now it's around 35 percent-- somewhere in 
that neighborhood--of present retirees, depending on Social 
Security for 100 percent of their retirement income. I think a 
lot of people in that regard probably wish they could have 
saved more when they were younger. But when you're young, you 
have a short horizon. The horizon is very short. So, that's why 
this whole idea of financial literacy, of getting young people 
involved in automatic savings as early as possible in their 
lifetimes, where you build up a culture, a culture of saving, 
is so important. We've just not had that very much in our 
country. We've become more a culture of debt than of savings. 
So, I'm hopeful that, again, what, or, if I've heard all of 
you, Dr. Brown, everybody say is that we do need to have a 
better sense of--you say financial literacy, but, what it means 
to save money, and what it means to save, not just for wealth 
accumulation, but what it means for how you will live when you 
are in the later part of your life.
    I'm always looking for ways of, that we can promote, or 
incentivize at the earliest possible time in life, that you 
could, you would have something that all the time would remind 
you that you're putting money away for retirement.
    I would throw one out for your consideration. That every 
single dollar of Federal money that goes out, or State money, 
or local tax money, anything that goes out, from the public 
treasury of any sort, that goes out in any form of a payment to 
any individual, that right off the top, a certain portion is 
taken and is put into a retirement account. Not Social 
Security. I'm not talking about Social Security. I'm talking 
about a 401(k) type of a system. And so, that could be 
everything from your local Head Start recipient, at the 
earliest possible age, to maternal and child health care 
programs, to education, of course, all kinds of things. So that 
right off the top you know that a certain amount of that money 
is going to be put into a retirement system. As I said, not 
Social Security. I'm talking about over and above what Social 
Security is, which is not, as someone pointed out, it's not a 
retirement saving. It's a generational transfer of money, is 
what Social Security is.
    Again, I go off on this vein only to encourage you to help 
us start thinking about different ways, I'm looking for new 
ideas on how we can start this younger generation, knowing that 
whenever they make a buck, some of that is put away, 
automatically put away, for retirement. How we do it in concert 
with the Constitution. It has to be constitutional. But somehow 
starting this at the earliest possible age. Like I said, there 
may be ideas out there. Dr. Brown, maybe you have some 
thoughts. We need to have the best ideas on how we start this 
culture of savings in our country.
    I don't know if any of you have a response. I went over my 
own time just talking. Didn't even ask a question. But do any 
of you have any responses to that, or any other ideas on 
starting this, either now or later on?
    Well, with that, I'll turn to Senator Enzi.
    Senator Enzi. Thank you, Mr. Chairman. We were talking 
earlier about driver's licenses and financial literacy. I'm 
usually in Wyoming on the weekends. I usually get there on 
Friday and quite often talk to some school classes. And one of 
the things that fascinates me is finding out how much they 
think they could make when they're in junior high, if they get 
a high school diploma and go into the job market. Most of them 
expect that they will make $50,000 a year. I take copies of 
Parade Magazine with me. They do, I think it's a semiannual 
review of what real people make. And that's usually quite an 
eye-opener to find out that some people in real estate make 
$3,000 a year. Of course, they include the sports figures, too, 
so there are still going to be kids out there dribbling a 
basketball so they can make $25 billion a year. But that's been 
a big help in financial literacy.
    It's kind of interesting how this committee has changed, 
because before the downturn one of the things we were 
concentrating on was how to keep people in the job market 
longer so that all the jobs could be filled. Of course, now we 
have a surplus of workers compared--although the front page of 
the paper, the Washington Post, yesterday pointed out that 
there are a lot of jobs in the United States, but we don't have 
the skills to match up to them. So, I'm going to put in a plug 
for getting my Workforce Investment Act passed.
    [Laughter.]
    That's one of the ways for them to stay viable, which is if 
they stay in the market longer.
    Ms. Chatzky, you said that people aren't saving enough, and 
I think that everybody would agree with you on that. What 
strategies would work best for someone who has been in the 
workplace a few years? I'm not talking about those 8th graders 
that I talk to, or the seniors, but the ones in between. What 
retirement savings advice would you give to young workers? How 
much of their paychecks should they be putting away?
    Ms. Chatzky. I tell them, something. Because you have to 
start someplace. Although I completely agree in theory with 
Lori's suggestion to increase the default to 6 percent, I worry 
that might, I think it needs to be tested and to see where 
people feel like the number is so high that they would start 
opting out. If you've tested it already, and I don't know, 
please forgive me.
    People need to start where they feel that they can start, 
and then they need to ratchet it up from there. I would love to 
see everybody putting aside 10 to 15 percent, including what 
sort of match, whatever match they're getting from their 
company. I think if we look at the data, that's the range that 
shows to work. But people start to feel good about their 
savings when they're putting away 5 percent, we know, and they 
start to feel that it's possible when they put away something.
    Senator Enzi. Ms. Lucas.
    Ms. Lucas. I did test it.
    [Laughter.]
    There is no empirical evidence at all that opt-out rates 
increase when the automatic enrollment default is 6 percent 
versus 3 percent. Opt-out rates are the same. I think plan 
sponsors are, harbor the myth that opt-out rates will increase, 
but we've done tests on it, and we see no empirical evidence.
    I'd also like to say, you know, I have done a number of 
surveys of participants in 401(k) plans, asking them, ``Why 
don't you save.'' They invariably say, ``Well, I can't afford 
to save.'' Then you keep kind of going through the questions 
and asking them a variety of different questions, and it 
becomes apparent that the reason they don't save is not because 
they can't afford to save, but because they don't want to. They 
have other priorities. They want to spend. Perhaps they want to 
save for other things. It's not that they don't have the 
wherewithal to save. It's just, it's not a priority. That's why 
you can increase the automatic enrollment default. You can get, 
they can, actually, save more, and not suffer from not being 
able to make ends meet.
    Senator Enzi. I think you suggested, too, that with the 
optimal escalation, that the top level ought to be raised, too. 
But here's a little different question. Is there an optimal 
level for employer contributions? Has anybody had any 
experience with that? What encourages the people the most to 
get into that?
    Ms. Lucas. I could answer that. What we find is that, as 
long as the employer contributes something, that has a huge 
impact. It almost doesn't matter whether it's 25 cents on the 
dollar or 50 cents on the dollar, as long as there's a 
contribution.
    What does make a big impact is the level at which the 
contribution ends. So, if they only contribute, if they're 
doing 50 cents on the dollar up to 6 percent, people will 
contribute up to 6 percent. If it's a smaller amount, up to 8 
percent, they will contribute up to 8 percent. So, there's a 
huge influence in terms of the level at which the employer 
contribution ends. We often encourage employers to have very 
high levels of--it can be economically neutral for them, but 
get the level of the employer contribution to a very high level 
of pay deferral.
    Senator Enzi. Thank you. And for all of you, are there any 
viable advice options, viable places to get investment advice? 
I know one of the automatic things would be at universities, 
but a lot of people don't go to the university, don't start 
making those decisions until after they've been to the 
university, and maybe miss that. So, what are some viable 
options for investment advice?
    One of the problems that businesses run into is whether, 
when they elicit those investment advice places, whether 
they're going to be liable for the advice that their employee 
gets.
    But putting that part aside, what are the good sources of 
investment advice?
    Ms. Chatzky. Sorry. I think it's the job of the employer, 
it should be the goal of the employer to make the least biased 
sources of that investment advice available. The Morningstar 
Ratings, for example. If you're offering your employees mutual 
funds, that would allow them to compare them like they compare 
one car against another car when they're shopping.
    There are a number of--Value Line--and a number of 
different organizations that do these unbiased comparisons. I 
think just putting them out there in as simple and abbreviated 
form as possible, while still containing the necessary 
information, would be helpful.
    Senator Enzi. OK. Anyone else? Yes.
    Ms. Lucas. I would like to offer that what we've 
experienced within the defined contribution system is that 
there's been many attempts to offer advice, online advice, and 
other types of services, and the utilization has been quite 
low. And part of it is just a lack of confidence that people 
have in really understanding the advice and having confidence 
that if they implement it, it will be good advice. So, where 
we've seen more, actually, more success, is through managed 
accounts, when not only has the advice been given, but 
discretionary control has been taken of the account, and the 
advice provider actually manages the account on behalf of the 
participant. That's been proven to be much more effective. It 
actually changed, in, getting people to have confidence in the 
advice that's given.
    Senator Enzi. Ms. Agnew. Dr. Agnew.
    Ms. Agnew. Yes. May I also say, I did a research project 
where I compared people that used online advice and managed 
accounts, and we found that managed accounts were appealing 
across demographic groups. But typically, with online advice, 
it's people with higher salaries that were interested in using 
it. Basically, people are using it that understand what they're 
doing and they're looking for someone to say, ``You're on the 
right path.'' So, it's supporting what you have just said.
    Senator Enzi. Thank you.
    I would mention that that takes me back to one of the ideas 
that I mentioned about being able to pool a bunch of small 
businesses to get the investment advice, because Morningstar, 
for example, is expensive for a small business to be able to 
purchase.
    Ms. Chatzky. So are managed accounts.
    Senator Enzi. Yes. Yes.
    The Chairman. Senator Blumenthal.
    Senator Blumenthal. Thank you, Mr. Chairman. I would just 
add a footnote to your comments, which I found very pertinent, 
about welcoming new ideas, particularly, ideas aimed at not 
only men and women, but boys and girls. Because I think that, 
as one of you suggested, there's never too early an age to 
begin. In fact, I think a very strong argument could be made 
that the driver's license age is almost too old, or maybe 
there's no place to get them at that age that will work. Maybe 
if you lose them at an early age, you don't reach them until 
some later point in their lives when they really come back to 
earth. So, any ideas you have about that age group, I 
personally would very much welcome.
    The Chairman. Anything off the top of your head right now?
    Senator Blumenthal. Thank you, Mr. Chairman.
    The Chairman. Well, thank you.
    I really don't have any more. I really appreciate your 
testimonies and your expertise, and your views on this.
    I'm anxious to see your legislation. I'd like to, because I 
think it has a lot of merit. I always worry about people that 
only have 2, 3, or 4 employees. They can't do this kind of 
stuff. So, if you can get consortiums of them together, that 
seems to make good sense.
    Any closing comments or observations by anyone?
    Dr. Brown.
    Mr. Brown. Yes. I appreciate the opportunity to speak here 
today, and I think you were asking a lot of very important 
questions. I look forward to continuing our communication in 
these areas.
    The Chairman. Thank you, Dr. Brown.
    Ms. Chatzky, any last thing.
    Ms. Chatzky. I would very much echo that thank you for 
inviting me here today. It's been very interesting.
    The Chairman. Thanks for being here.
    Ms. Lucas.
    Ms. Lucas. Thank you. I guess the one comment I'd like to 
make is that, another area that is of great concern for the 
overall retirement income adequacy of participants is plan 
leakage. Not only getting money into the plan, but keeping it 
there through preventing excessive loans, withdrawals.
    The Chairman. Oh, yes.
    Ms. Lucas. I think that that's another very important area 
that needs further investigation and further support.
    The Chairman. Well, I'm getting ready to gavel this shut, 
but you just opened up a whole new avenue, and that's the whole 
idea that people that get in stressful situations borrow the 
money out. My professional staff has told me it stayed pretty 
stable over the last 20 years. But, during the recent economic 
recession there was an uptick in loans. But, before that it was 
pretty stable. But it is a concern. People borrow the money out 
of their plan, and then they either have to pay it back, or 
they pay taxes on it. And the taxes are less than paying it 
back, so you pay the taxes, and then your plan's depleted. I 
think that's part of what you were getting at.
    Anything else.
    Dr. Agnew.
    Ms. Agnew. Well, many of the Senators asked the question, 
where can people get information?
    I think one thing that we do need is a trusted source that 
people can go to. I know in New Zealand they have a Web site 
called sorted.org. Many New Zealanders use it, actually, to get 
information about different life and financial decisions. I do 
know that there are certain groups with the Financial Literacy 
Research Consortium that are working to build a Web site like 
that, that would be engaging people, and that people would want 
to go to. I think that's very much a worthwhile effort and 
should be pursued.
    The Chairman. Thank you all, very much.
    The record will stay open for 10 days for any comments or 
further questions.
    This is an area of deep interest to this committee on both 
sides. And, that is, this whole idea of retirement security. We 
will continue to have more hearings on this this year, and 
trying to see what else we can do to help secure retirement 
savings for American citizens.
    Thank you very much for being here.
    The committee will stand adjourned.
    [Additional material follows.]

                          ADDITIONAL MATERIAL

                 Prepared Statement of Senator Isakson

    I thank Chairman Harkin for calling this hearing and I 
welcome the witnesses.
    I am proud to be a cosponsor, along with Senators Bingaman 
and Kohl, of the Lifetime Income Disclosure Act, which would 
amend the Employment Retirement Income Security Act of 1974 to 
provide 401(k) participants with an estimated monthly value of 
their benefits if they were to convert it to a guaranteed 
lifetime income stream upon their retirement.
    Our bill models this notice upon the annual report workers 
already receive from the Social Security Administration.
    As the witnesses will attest today, too many Americans are 
dangerously underprepared for retirement. Our bill will 
increase financial literacy, promote increased savings, and 
encourage participants to think of their 401(k) balance as a 
vehicle for lifetime income.
    For instance, let's imagine a 29-year-old participant who 
has been saving for 7 years has accumulated a $10,000 account. 
Under the bill, he would be informed that upon his retirement 
at age 65, he could expect a guaranteed lifetime income stream 
of about $600/month. That amount tells the participant that he 
is doing well in saving for retirement, but has a long way to 
go.
    The estimated value would be derived from a government 
formula that assumes a normal retirement age. The plan sponsors 
and the providers would both remain completely free from 
fiduciary liability on the accuracy of the estimation, as long 
as they used the government formula.
    It is important what the bill does NOT do. It does not 
affect the tax treatment of 401(k) funds, nor does it mandate 
participants choose any particular retirement option. It merely 
provides participants with additional information so they can 
make informed choices about retirement.
    I am happy to sponsor this bipartisan legislation that will 
foster increased preparation for retirement for millions of 
American workers.

           Prepared Statement of the Women's Institute for a 
                       Secure Retirement (WISER)

    The Women's Institute for a Secure Retirement (WISER) is pleased to 
submit this testimony for the record, relative to the Senate Committee 
on Health, Education, Labor, and Pensions hearing on encouraging better 
retirement decisions.
    WISER is a non-profit organization whose primary mission is to 
focus exclusively on the unique financial challenges that women face 
and provide the crucial skills and information women need to improve 
their long-term economic circumstances and financial quality of life. 
WISER supports women's opportunities to secure adequate retirement 
income through its research, training workshops, education materials 
and outreach.
    WISER's major objectives are to: (1) Educate women age 18-70 to 
improve their financial decisionmaking; (2) Provide clear up-to-date 
information that moderate- and low-income women can use to mitigate the 
risks they face with respect to retirement income security; and (3) 
Raise awareness among policymakers and the public on these issues.
    WISER also operates the National Education and Resource Center on 
Women and Retirement Planning (The Center) under a cooperative 
agreement with the Administration on Aging. The Center is a one-stop 
gateway of information created with strategic public-private coalitions 
to provide hard-to-reach women with financial tools. The Center's goal 
is to help women make the best decisions they can with their limited 
income.
    The Center has directly reached tens of thousands of women through 
our workshops and our partners' workshops, and we have further reached 
millions with our publications and Web site. WISER's approach is to 
bring financial planning back to the basics, and our strength is to 
provide women and minorities with core financial knowledge that 
encourages them to make financial and retirement planning a priority in 
their lives. The initiative began in 1998 and now includes numerous 
partners, including employers, aging and women's organizations, and 
community organizations.
    We support the committee's efforts to find ways to meet the 
financial capability needs of all plan participants, avoid poverty in 
retirement, and to raise awareness among policymakers and the public on 
the unique challenges women face.

                            RISKS WOMEN FACE

    The term ``lifetime'' takes on a whole new meaning for retiring 
women. Millions of women will live a third of their lifetimes after 
they reach their 60s. Thirty years is a long time to make savings last, 
putting women at high risk for poverty in their old age.
    Many of the risks women confront, like longevity, simply come with 
the territory of being a woman in the United States. Women get paid 78 
cents on the dollar for the same work men do. Many work in low-paying 
industries where benefits are scarce. When it comes to family 
caregiving needs, the vast majority of the responsibility falls on 
women who take time out of the workforce to raise kids or care for 
adult family members. Women often end up alone in retirement, which 
substantially increases the risk of poverty. They are also more likely 
to have chronic illness and require institutional care.
    The most pressing threat women face in retirement is outliving 
their assets. Running out of money in retirement is too large of a risk 
to self-insure, but that is what millions of retirees do in an era of 
lump sum distributions from defined contribution plans. Women need 
information and access to safe, affordable lifetime income products.

                 THE IMPACT OF RETIREMENT RISK ON WOMEN

    A report recently released by the Society of Actuaries and co-
sponsored by WISER, The Impact of Retirement Risk on Women, finds that 
women have special retirement planning needs that are largely being 
ignored. The report details why it is particularly critical that women, 
who outlive men by 3 to 4 years on average, understand--and act on--the 
post-retirement risks they face.
    Here are five key reasons women's retirement could be at risk:

    Reason No. 1: Planning horizons are too short. Most women can 
expect to live 20 or more years after age 65. However, 9 out of 10 
women in retirement or close to retirement do not plan nearly that far 
into the future.
    Reason No. 2: Outliving assets is a risk. On average, women live 20 
years after age 65, while men live 17 years. So women are more likely 
than men to outlive their assets. In fact, 4 out of 10 women over age 
65 who are living alone depend on Social Security for virtually all 
their income.
    Reason No. 3: Married women need to prepare for widowhood. Because 
men tend to marry younger women, and women tend to outlive men, periods 
of widowhood of 15 years or more are not uncommon. The numbers show 
that 85 percent of women over age 85 are widows, while only 45 percent 
of men over age 85 are widowers. Yet there is a planning disconnect 
here. Only 17 percent of female retirees and 27 percent of female pre-
retirees said they would be worse off if their husband passed away; the 
majority of married women think that their financial situation would be 
the same or better if their husband passes away. However, the reality 
is that most widows have significantly lower income after their husband 
dies.
    Reason No. 4: Women need to plan for long-term care. Women are more 
likely than men to have chronic disability in their later years and 
need care in a long-term care facility, or need a paid caregiver. The 
expected average value of the cost of lifetime long-term care services 
is $29,000 for males and $82,000 for females, although these amounts 
can get far higher for some people.
    Reason No. 5: Women have a greater need to plan for medical 
expenses. Retirement incomes are generally less for women than for men, 
but they do not have lower health care costs. And women are less likely 
to have medical insurance from their employer, compared to men.

    For most women, there's little room for error, and being unprepared 
for nearly a third of their lives will have consequences.

        THE NEED TO EDUCATE ON THE IMPORTANCE OF LIFETIME INCOME

    Combined with Social Security, immediate annuities represent a 
meaningful channel through which millions of women can live out their 
years in comfort and dignity. Yet, despite their availability, few 
retirees opt for lifetime income products. Only 18.6 percent of 
retirees aged 65 and over receive retirement income in the form of an 
annuity.\1\
---------------------------------------------------------------------------
    \1\ Employee Benefit Research Institute. Income of the Elderly 
Population, Age 65 and Over: 2007. EBRI Notes, Vol. 30, No. 5. May 
2009.
---------------------------------------------------------------------------
    Education plays a crucial role in achieving lifetime income 
security. Policy discussions on retirement security focus largely on 
asset accumulation. The same holds true for all of the financial 
information swirling around for people to try to make sense of.
    Accumulation is, of course, a critical ingredient to retirement 
income security. But we need to help people see the big picture: how 
can they make use of what they have earned and saved to make their 
money last as long as they do? The pursuit of lifetime income--not the 
prospect of a one-time lump sum check, is the goal of retirement 
planning. We need to build better awareness about the tradeoffs of 
retirement income options.\2\
---------------------------------------------------------------------------
    \2\ For an in-depth discussion, please see WISER's report: How Can 
Women's Income Last as Long as They Do? Thought Leaders Discuss 
Managing Assets in Retirement. June 2009.
---------------------------------------------------------------------------
    We need to help participants learn how to manage assets in 
retirement, and reframe the discussion.

                  LIFETIME INCOME PRODUCT LIMITATIONS

    Lifetime income products are not without their limitations. For 
example, they typically do not adjust for inflation, eroding the 
annuitant's purchasing power over time. Providers are increasingly 
coming up with features to address issues like this, but they come at 
the cost of higher expenses and lower income payout.
    Also, the decision to accept a lifetime annuity is typically 
irreversible. Studies show that people fear this aspect, on the chance 
they may die long before they have received the cost of the annuity 
back.

                  THE IMPORTANT ROLE OF ANNUITIZATION

    In spite of limitations, WISER sees immediate annuities as an 
important resource for millions of women, even those who have modest 
retirement assets. One hundred percent annuitization would make little 
sense for most (if not all) retirees. On the same hand, a retiree 
managing 100 percent of her retirement assets does not make much sense 
for most (if not all) retirees either. But we believe the option of 
annuitizing some portion of retirement assets is critical.
    As Professor and Wharton Fellow, Dr. David Babbel, notes:

          ``Lifetime income annuities may not be the perfect financial 
        instrument for retirement, but when compared under the rigorous 
        analytical apparatus of economic science to other available 
        choices for retirement income, where risks and returns are 
        carefully balanced, they dominate anything else for most 
        situations. When supplemented with fixed income investments and 
        equities, it is the best way we have now to provide for 
        retirement. There is no other way to do this without spending 
        much more money, or incurring a whole lot more risk--coupled 
        with some very good luck.'' \3\
---------------------------------------------------------------------------
    \3\  David F. Babbel. Lifetime Income for Women: A Financial 
Economist's Perspective. Wharton Financial Institutions CenterPolicy 
Brief: Personal Finance. 2008.

    On behalf of the Women's Institute for a Secure Retirement, thank 
you for your consideration of this submission for the record. We 
welcome the opportunity to discuss these comments with committee 
members and staff.

      Prepared Statement of The American Council of Life Insurers

    The American Council of Life Insurers (ACLI) commends this 
committee for holding hearings on the growing retirement security 
crisis. We applaud Chairman Harkin (D-IA) and Ranking Member Enzi (R-
WY) for focusing on what can be done to help Americans save more for 
retirement and make informed decisions about their retirement savings. 
In particular, we believe that as Congress examines ways to preserve 
and enhance the current system, special attention should be given to 
help workers understand how their savings can provide them income they 
cannot outlive in retirement. ACLI believes that by providing a simple 
illustration of retirement savings as guaranteed lifetime income 
directly on defined contribution plan statements, workers will better 
understand whether they need to increase their savings, adjust their 
investments, or reconsider their retirement date, if necessary, to 
assure the quality of life they expect when they retire. It will also 
fundamentally change the way workers view their retirement savings, not 
only as a lump sum, but also as a source of guaranteed lifetime income.
    The American Council of Life Insurers is a national trade 
organization with over 300 members that represent more than 90 percent 
of the assets and premiums of the U.S. life insurance and annuity 
industry. ACLI member companies offer insurance contracts and 
investment products and services to qualified retirement plans, 
including defined benefit pension, 401(k), 403(b) and 457 arrangements 
and to individuals through individual retirement arrangements (IRAs) or 
on a non-qualified basis. ACLI member companies' also are employer 
sponsors of retirement plans for their employees. As service and 
product providers, as well as employers, we believe that saving for 
retirement and managing assets throughout retirement are critical 
economic issues facing individuals and our Nation.
    As the first wave of the baby boom generation reaches retirement 
age this year, it is timely that this committee is looking at the 
retirement savings plan system's ability to provide sufficient 
retirement income for these and future retirees. Many current retirees 
are fortunate in that they are receiving lifetime monthly income from 
both Social Security and an employer-provided defined benefit (DB) 
pension. That situation is rapidly changing. Today, more workers have 
retirement savings in defined contribution plans, which largely do not 
offer the option to elect a stream of guaranteed lifetime income. This 
change leads to questions of how individuals will manage their savings 
to last throughout their lifetime. Workers need to understand the value 
of their retirement savings as a source of guaranteed lifetime income. 
With this information, workers would be in a better position to 
consider augmenting their Social Security benefit with additional 
amounts of guaranteed lifetime income so that anticipated monthly 
expenses can be covered, shifting the risk of outliving one's savings 
to a life insurer.
    With the passage of the ``Lifetime Income Disclosure Act,'' which 
was reintroduced today by Senators Bingaman, Isakson and Kohl, Congress 
will move one step closer to helping individuals think of defined 
contribution plan savings as not only a lump sum balance, but also as a 
source of guaranteed lifetime income so that retirees can plan for a 
predictable standard of living. With this additional information on 
one's statement, workers will receive a ball park estimate, which when 
coupled with their Social Security statement, visually displays how 
much monthly income they could potentially receive in retirement based 
on their current savings. Workers can better decide whether to increase 
their savings, adjust their 401(k) investments or reconsider their 
retirement date, if necessary, to assure the quality of life they 
expect when their working days are over. From a recent survey, workers 
find it valuable to see how much guaranteed lifetime income they could 
obtain with their retirement plan savings.\1\
---------------------------------------------------------------------------
    \1\ ACLI Study on Retirement Choice, Mathew Greenwald & Associates 
2010 (see Appendix 2).
---------------------------------------------------------------------------
    As an addendum to this statement, ACLI has outlined a number of 
other recommendations to encourage employers to offer guaranteed 
lifetime income options. Additionally, the prior survey notes that 
workers are also interested in guaranteed lifetime income options.
    In conclusion, workers need additional information and access to 
lifetime income options if they are expected to successfully manage 
their savings throughout retirement. To this end, a lifetime income 
illustration will help workers visualize how their savings will address 
their basic month-to-month living expenses after retirement. Taking 
this important step today can help address tomorrow's retirement income 
security crisis.

                                ADDENDUM

    New laws and regulations can help employers assist their employees 
in obtaining guaranteed lifetime income in the same way they have 
assisted employees in obtaining life insurance, disability insurance, 
and other financial protection products. New laws and regulations can 
also create an incentive to use guaranteed lifetime income as part of 
an employee's overall retirement income plan.

Recommendations to Encourage Employers to Offer Annuities
    1. Provide Employers with Guidance on Lifetime Income and 
Education. The ACLI urges the DOL to revise and extend Interpretive 
Bulletin 96-1 beyond guidance on investment education to include 
guidance on the provision of education regarding lifetime income and 
other distribution options, both ``in-plan'' and outside the plan, to 
assist participants and beneficiaries in making informed decisions 
regarding their distribution choices.
    2. Help Employers Select an Annuity Provider. The DOL took an 
important step by changing the so-called ``safest annuity standard'' in 
Interpretive Bulletin 95-1 by adopting a safe harbor for the selection 
of annuity providers for individual account plans. While this 
regulation provided some helpful guideposts, it contains a requirement 
that the fiduciary ``conclude that the annuity provider is financially 
able to make all future payments.'' This standard is difficult to meet, 
in part because it is hard to know how to draw this conclusion. While 
it is part of a ``safe harbor,'' this prong makes it difficult to use 
the safe harbor and thus is an impediment to the offer of annuities in 
defined contribution plans. ACLI believes that changes can be made to 
these rules which will make it easier for employers to meet their 
duties while at the same time ensuring a prudent selection. We plan to 
work with the Department of Labor to simplify this requirement so that 
an employer can more easily and objectively evaluate the financial 
stability of the annuity provider.
    3. Annuity Administration. Employers take on a number of duties in 
administering a retirement plan, and the administration of an annuity 
option would increase those duties. The qualified joint and survivor 
annuity (``QJSA'') rules provide important spousal protections. The 
notice and consent requirements provide spouses with an opportunity to 
consider the survivor benefits available under a joint and survivor 
annuity. However, these rules add an additional layer of administrative 
complexity as well as technical compliance issues that most plan 
sponsors choose to avoid by excluding annuities from their plans.
    There are a number of ways that the rules can be modified to make 
it easier for employers to administer this important requirement while 
protecting survivors, including:

     model plan amendments for employers to add guaranteed 
lifetime income options;
     simplify QJSA notice requirements; and
     the use of electronic signatures, widely accepted in 
financial transactions today.

    ACLI proposes allowing those employers who choose to do so to 
transfer the duties and liabilities of administering qualified joint 
and survivor annuity rules to an annuity administrator. Also, employers 
need guidance that confirms that a participant's purchase of 
incremental deferred payout annuities should not be subject to the QJSA 
rules until the participant has elected to take the annuity payout.
    4. Partial Annuitization Option. Some employers view annuitization 
as an ``all-or-nothing'' distribution offering. In our RFI submission, 
we asked the Departments to provide guidance making clear that plans 
may provide retirees with the option to use a portion of the account 
value to purchase guaranteed lifetime income, including model 
amendments to simplify the adoption of such a provision.

Recommendations to Encourage Workers to Elect Annuities
    1. Illustration. To reframe retirement savings as a source of 
lifetime income, ACLI supports legislative proposals to include an 
illustration of participant accumulations as monthly guaranteed 
lifetime income on defined contribution plan benefit statements. ACLI 
thanks Senators Kohl, Bingaman and Isakson for their bi-partisan 
sponsorship of S. 2832, the Lifetime Income Disclosure Act, in the 
111th Congress. This bill would help workers understand how their 
retirement savings might translate into guaranteed lifetime income.
    2. Information. The ACLI has asked the Treasury Department to 
modify the 402(f) rollover notice requirements and the safe harbor 
notice to include information on guaranteed lifetime income, including 
the importance of income protections and the availability of lifetime 
income plan distribution options, if any, as well as lifetime income 
options available outside the plan.

                              Attachments

    [Editor's Note: Due to the high cost of printing previously 
published materials are not reprinted in the hearing record. The 
material, ``ACLI Retirement Choices Study,'' by Mathew Greenwald & 
Associates, Inc., April 2010 may be found at www.acli.com.]
                                 ______
                                 
  ``ENCOURAGE ANNUITY OPTIONS FOR DEFINED CONTRIBUTION PLANS,'' ACLI 
                        PROPOSAL, FEBRUARY 2009

    Problem: Currently, about one-half of employees' retirement savings 
is in defined contribution plans. Most defined contribution plans do 
not contain guaranteed lifetime income (annuity) distribution options 
notwithstanding that annuitization of account balances on retirement is 
the best way of assuring that retirement funds will not be exhausted 
during the participant's life. Early exhaustion of account balances may 
also adversely affect surviving spouses.
    A major reason that defined contribution plans do not provide 
guaranteed lifetime income options is that, if they do so, the plan 
must then comply with burdensome statutory requirements relating to 
joint and survivor annuities. The J&S rules impose costly and 
burdensome administrative requirements involving notifications to 
spouses, waivers by spouses, and prescribe the form and amount of 
spousal benefits. A major reason for the shift to defined contribution 
plans is a desire by employers to avoid the administrative cost and 
complexity associated with defined benefit plans, including compliance 
with joint and survivor annuity requirements.
    A potential solution to this problem would be for the plan sponsor 
to outsource the administration of the joint and survivor annuity rules 
to the annuity provider. However, in the event of a failure of the 
annuity provider to properly administer the rules, the plan and plan 
sponsor would still be liable for a claim for benefits under Section 
502 of ERISA.
    Solution: Where the plan sponsor and the annuity provider have 
agreed that the annuity provider will be responsible for administration 
of the joint and survivor annuity rules, provide that enforcement 
actions for failure to comply with the joint and survivor annuity rules 
may only be maintained against the annuity provider, provided that the 
plan sponsor or administrator has prudently selected and retained 
selection of the annuity provider. Make this provision applicable only 
to administration of the joint and survivor annuity rules under defined 
contribution plans. The electronic delivery rules should be modified to 
allow greater use of electronic means for administration of the J&S 
rules.
    Rationale: The ability to shift responsibility for the 
administration of the joint and survivor annuity rules would make 
guaranteed lifetime income (annuity) options more attractive to plan 
sponsors and could result in significantly wider availability of such 
annuity payment options under defined contribution plans. While this 
approach would retain the cost and complexity of the annuity rules, it 
would preserve spousal protections and would permit the plan and plan 
sponsor to shift responsibility to an experienced third party annuity 
provider. This provider would be an insurance company with experience 
in annuity administration and a secure financial ability to pay 
annuities. These factors makes shifting responsibility to annuity 
issuers more beneficial to and protective of plan participants, 
beneficiaries (including surviving spouses) and the plan sponsor than 
leaving responsibility with the plan and plan sponsor.
    Electronic administration is more cost-efficient and has become 
more widely used. DOL has indicated that they are modifying their 
regulation on electronic delivery, although it is not known whether the 
modification will cover the QJSA rules.

    SECTION--
    (a) AMENDMENTS TO THE EMPLOYEE RETIREMENT INCOME SECURITY ACT OF 
1974.--
    (1) IN GENERAL--Section 402(c) of the Employee Retirement Income 
Security Act of 1974 (29 U.S.C. 1102(c)) is amended--
      (A) in paragraph (2) by striking ``or'' at the end;
      (B) in paragraph (3) by striking the period at the end and 
inserting ``; or''; and
      (C) by adding at the end the following new paragraph:
        ``(4) that a named fiduciary, or a fiduciary designated by a 
named fiduciary pursuant to a plan procedure described in section 
405(e), may appoint an annuity administrator or administrators with 
responsibility for administration of an individual account plan in 
accordance with the requirements of Section 205 and payment of any 
annuity required thereunder.''
    (2) Section 405 (29 U.S.C. 1105) is amended by adding at the end 
the following new subsection:
      ``(e) Annuity Administrator
      If an annuity administrator or administrators have been appointed 
under section 402(c)(4), then neither the named fiduciary nor any 
appointing fiduciary shall be liable for any act or omission of the 
annuity administrator except to the extent that--
        (1) the fiduciary violated section 404(a)(1)--
          (i) with respect to such allocation or designation, or
          (ii) in continuing the allocation or designation; or
        (2) the fiduciary would otherwise be liable in accordance with 
subsection (a).''
    (3) Section 205(b) (29 U.S.C. 1055) is amended by adding at the end 
the following new sentence:
      ``Clause (ii) of subparagraph (C) shall not apply if an annuity 
administrator or administrators have been appointed under section 
402(c)(4).''
    (b) AMENDMENTS TO THE INTERNAL REVENUE CODE OF 1986--
    (1) IN GENERAL--Section 401(a)(11) of the Internal Revenue Code of 
1986 (relating to requirements of joint and survivor annuities and pre-
retirement survivor annuities) is amended by adding at the end the 
following new sentence:
      ``Clause (iii) (II) shall not apply if an annuity administrator 
or administrators have been appointed under section 402(c)(4) of the 
Employee Retirement Income Security Act of 1974.''
    (c) ELECTRONIC DELIVERY
    (1) IN GENERAL--The Secretary of the Department of Labor shall 
modify the regulations under section 104 or section 205 of the Employee 
Retirement Income Security Act of 1974 to provide a broad ability to 
administer the requirements of section 205 of the Employee Retirement 
Income Security Act of 1974 by electronic means.
                                 ______
                                 
                          The SPARK Institute, Inc.
                                       Simsbury, CT, 06070,
                                                 February 14, 2011.
Hon. Richard Burr,
U.S. Senate,
217 Russell Senate Office Building,
Washington, DC 20510.

Re: Proposal for a Universal Small Employer Retirement Savings Program

    Dear Senator Burr: On February 3, 2011, the Senate Committee on 
Health, Education, Labor, and Pensions (``HELP''), held a hearing on 
``Simplifying Security: Encouraging Better Retirement Decisions.'' 
During the hearing Senators Enzi and Harkin, among others, called for 
the best new ideas that would help Americans save for a more secure 
retirement. The SPARK Institute \1\ understands the challenges for 
small employers and Americans, trying to figure out how to save for 
retirement. Consequently, we developed a simple and cost-effective 
employer-based retirement savings plan alternative to the plans that 
are currently available and to the proposed mandatory payroll deduction 
IRA.
---------------------------------------------------------------------------
    \1\ The SPARK Institute represents the interests of a broad-based 
cross section of retirement plan service providers and investment 
managers, including banks, mutual fund companies, insurance companies, 
third party administrators, trade clearing firms and benefits 
consultants. Members include most of the largest firms that provide 
recordkeeping services to employer-sponsored retirement plans, ranging 
from one-participant programs to plans that cover tens of thousands of 
employees. The combined membership services approximately 70 million 
employer-sponsored plan participants.
---------------------------------------------------------------------------
    Our Universal Small Employer Retirement Savings Program (the 
``Program'') was developed specifically to address and overcome the 
roadblocks in the current system that have been identified by small 
employers, American workers and service providers. For example, the 
Program addresses employers' concerns about costs, complexity and 
potential fiduciary liability. Simplified administration will make it 
possible for service providers to cost-effectively take on more 
responsibility for employers. The Program also leverages automatic 
enrollment and escalation features that have been successful in getting 
employees to start and continue to save. A copy of the Program is 
attached for your review.
    We welcome the opportunity to discuss the concept with you as 
Congress considers new ways to help Americans save for retirement. We 
also welcome the opportunity to share our ideas with the HELP Committee 
at future hearings. If you have any questions regarding this 
information, please do not hesitate to contact me at (704) 987-0533.
            Respectfully,
                                         Larry H. Goldbrum,
                                                   General Counsel.

    [Editor's Note: Due to the high cost of printing, previously 
published materials are not reprinted in the hearing record. The above 
referenced material may be found at http://www.sparkinstitute.org.]
    [Whereupon, at 3:50 p.m., the hearing was adjourned.]

                                   

      
