A Nudge in the Right Direction
By Ethan Geiling and Stephanie Halligan on 07/07/2011 @ 03:15 PM
A Nudge in the Right Direction: Applying Behavioral Economics to Children’s Savings Programs
We all have the best intentions to exercise, keep our New Year’s resolutions (remember those?) and save money…but even our best intentions don’t always translate into action. This is especially true when the goal is a long way off, like saving for retirement or your child’s college education. Most people have some desire to save more money, and most people have the opportunity to access a financial product to make that happen. In an Individual Development Account or children’s savings program, for example, families enroll with the intention of saving money in their program account. Yet we know that many individuals in these programs don’t take full advantage of their incentive funds or drop out of the program entirely. Why is this? Behavioral economics would argue that the desire to save and access to an account are not enough to change behavior.
Our friends at the New America Foundation recently released a report titled Accelerating Financial Capability Among Youth, which examines the psychological barriers to savings and argues that youth savings programs need to focus on more than just access and financial education. According to the paper, “access + education” may lead to advanced knowledge and skills, but it underemphasizes the most challenging component of a savings program: behavior. Programs looking to increase savers participation need to address the psychological barriers – or “biases” – that get in the way of strong savings habits.
Personal finance includes frequent decision-making challenges about spending, saving and borrowing for the future. Yet behavioral research suggests that people are generally present-oriented: we prefer to have things now rather than save to have things later; we have trouble following through on plans when they require ongoing conscious actions, like remembering to make a savings deposit; and we are bad at predicting the probability of future events and risks (like future job loss or an unpredictable medical expense).
Given these biases, saving money isn’t always easy – especially for low-income families. But with the right support, encouragement and a few behavioral “nudges,” savings programs can help combat those inherent biases and guide savers in the right direction. Here are a few suggestions for applying effective, low-cost “nudges” to a Children’s Savings Program:
- Send reminders - Reminders are a simple and effective tool for encouraging positive savings behavior. A recent experiment found that simply texting savers and reminding them to save money increased their savings-account balances by 6%. Programs not already using an automatic texting service can use the service at “Oh, don’t forget…”
- “Set it and forget it” – Automation is one of the most effective behavioral economics tools. Even more so than reminders, automation helps ensure that your “future self” will follow through with your intentions to save. Signing up account holders for automatic deposits, for example, sets in motion a positive, continuous savings habit that doesn’t require the saver to actively and manually make deposits in the future.
- Create a culture of savings – Behavioral economics suggests that individual behavior is strongly shaped by social pressure. Consider providing periodic reports on how much money families have collectively saved or offering friendly competitions among different groups of participants. Rewards can be as simple as recognition in a newsletter or a special party for the winner. These simple “social pressures” can encourage others to actively participate in a saving program.
Experts in the field have only just begun to explore the applications of Behavior Economics in Children’s Savings Programs, but we here at CFED are excited to continue exploring these little nudges and monitoring the big changes they produce.
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