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Default super and the backstop society

By Nicholas Gruen - posted Wednesday, 21 September 2005


Compulsory superannuation sees 9 per cent of workers wages put aside for super. It's a great start. But unless you've been salary sacrificing a fair bit more again, you're probably saving too little.

Why do so many of us save too little for retirement? We "rationally" under-save because we know we can fall back on the pension. "Behavioral economics" has also recently begun filling in the irrational side of the story.

Knowing how much to save is a difficult business. Only 40 per cent of Americans, for instance, seek to work out how much savings they require for retirement - not really knowing where to begin. Only slightly more - still a minority - have the basic knowledge to make good investment decisions - for instance the knowledge that equities tend to out perform bonds over time.

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Even with compulsory super at 9 per cent, studies suggest that a majority of Australians will be disappointed with the amount they have saved for retirement.

In situations of great uncertainty we procrastinate. We put off facing the discomfort of our own ignorance till tomorrow. We’re unusually susceptible to suggestion and influenced by what seems "normal".

That's not just the poor and the uneducated. A Harvard University savings plan yielded no return until employees chose between two investment options. Yet most junior employees delayed doing the paperwork long enough to lose hundreds of dollars.

This is typical of millions of us. We intend to save more, but we put off the decision making - not to mention the paperwork. But if our tendency to take the line of least resistance looks like a problem, it's also a big opportunity. We just have to rearrange what the line of least resistance is!

Enter the backstop society.

A good software program comes with default settings suited to the average user which can nevertheless be overridden should they wish. The backstop society would do the same for saving. Citizens would be free to make their own arrangements secure in the knowledge that - should they not actively exercise that freedom - they will fall back on designed rather than undesigned "defaults".

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Consider this. In the US new employees’ participation in tax privileged "401K" savings schemes can be as low as 26 per cent though this rises over time. When firms enroll employees by default but let them opt out, participation jumps to over 85 percent and stays there.

We can improve Australians’ savings habits, and so their lives, in the same way.

We’d begin by getting experts to recommend some target level of default salary sacrifice above the compulsory rate - say 6 per cent bringing total super contributions to 15 per cent of wages.  Where employees' existing salary sacrifice contributions were below that target, and they had not "opted out", their employers would deduct an additional - say - 1 per cent of their wages as a salary sacrifice contribution to employees super accounts.

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This column is an abridgement of Designed defaults: How the Backstop Society can failsafe Australians' Superannuation  and is part of the Progressive Essay series on September 15, 2005. First published as "The backstop society offers super saving" in the Australian Financial Review also on September 15, 2005.



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About the Author

Dr Nicholas Gruen is CEO of Lateral Economics and Chairman of Peach Refund Mortgage Broker. He is working on a book entitled Reimagining Economic Reform.

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