Incorporating Employee Heterogeneity Into Default Rules for Retirement Plan Selection

WP#2010-6

Abstract

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

The CRR wants to hear from our website users like you. Would be you willing to take a short survey?

Yes, take me to it.       No, thanks.      Not now, but ask me later.