Friday, May 29, 2015

Irrelevant Things Matter in Economic Behavior

Supposedly irrelevant factors, or SIFs, matter a lot, and if we economists recognize their importance, we can do our jobs better. Behavioral economics is, to a large extent, standard economics that has been modified to incorporate SIFs ... Consider defined-contribution retirement plans like 401(k)’s. Econs would have no trouble figuring out how much to save for retirement and how to invest the money, but mere humans can find it quite tough. So knowledgeable employers have incorporated three SIFs in their plan design: they automatically enroll employees (who can opt out), they automatically increase the saving rate every year, and they offer a sensible default investment choice like a target date fund. These features significantly improve the outcomes of plan participants, but to economists they are SIFs ... Notice that the irrelevant design features that do all the work are essentially free, whereas a tax break is quite expensive. The Joint Economic Committee estimates that the United States tax break will cost the government $62 billion in 2015, a number that is predicted to grow rapidly. Furthermore, most of these tax benefits accrue to affluent taxpayers. more

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