Libertarian Paternalism
Behavioral economics blends psychology, economics and, increasingly, neuroscience to argue that emotion plays a huge role in how people make economic decisions.
Eldar Shafir’s behavioral economics primer is full of anomalies, including the popular “6 jam-vs.-24 jam” experiment. In an upscale grocery story, researchers set up a tasting booth first with 6 jars of jams, and later with 24 jars. In the first case, 40 percent of the customers stopped to taste and 30 percent bought; in the second, 60 percent tasted but only 3 percent bought. Too many options can flummox a consumer — and if 24 jars of jam pose a problem, imagine what 8,000 mutual funds can do. Standard economics would argue that people are better off with more options.
Save More Tomorrow (SMarT) is a savings plan designed by Richard H. Thaler (co-author of “Libertarian Paternalism Is Not An Oxymoron“), whereby employees pledge a share of their future salary increases to a retirement account. The plan has proved remarkably successful.
The SMarT plan takes advantage of behavioral economics’ basic tenets: “loss aversion” (people fear loss because it causes them far more pain than the pleasure they receive from gain; but since the SMarT plan covers a future raise, they never feel its loss); “status-quo bias” (since people are reluctant to change, the change can be made for them); and “mental accounting” (people have a pressing need to direct different streams of money into different “accounts”).
“There are two enormous travesties in the financial services industry,” says David I. Laibson, “One, people have too much of their own company’s stock, and two, mutual-fund management fees are too high.” His solution to the first problem: an automatic asset reallocation to keep an employee from holding more than 20 percent of his portfolio in company stock.
“People could opt out,” he said. “If you’re crazy enough to do that, fine, that’s your right, but we’d certainly push them down.” His solution to the second problem: warning labels about management fees, modeled after the surgeon general’s cigarette warning.