Default super and the backstop society

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.

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".

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.

The process would be repeated each year until the target was reached.

As "default salary sacrifice contributions" rose, employees would receive written explanation of:

• what had happened;
• why (in the absence of financial analysis of the employee’s individual circumstances) the target rate of savings seems prudent;
• how to opt out; and
• how to opt up - increasing saving faster than the default rate of increase.

The latter course could involve immediate further increases and or setting aside some additional proportion of future wage rises. Those responding to such approaches in the US have increased their savings rates from 4 to 12 per cent over 28 months.

Time was when we led the world in economic reform. We’ve barely begun discussing "default super". Meanwhile it’s become government policy in New Zealand - though their need is admittedly greater in the absence of any compulsory savings.

Announced in this May's budget, "KiwiSaver" requires employers to divert 4 per cent of wages into super with employees free to opt-out or opt-up. Participants benefit from a modest $1,000 government contribution followed by first home ownership assistance.

The National Party plans to abolish KiwiSaver to fund tax cuts. But KiwiSaver has won international acclaim and will no doubt be emulated elsewhere.

And it need not wait for government endorsement or enforcement. Many employers would do it of their own accord if they appreciated how much good it could do their employees - all for the cost of rejigging the administration of existing super payments.

Unions (and fund managers) could serve their members by helping persuade employers not to procrastinate.

Paraphrasing Churchill, rarely before in the field of collective decision making has so much improvement been offered with so little coercion or risk of harm.