Behavioral Obstacles in the Annuity Market

We report the effects of framing and default settings in annuity demand after conducting a survey-based experiment with over 3,000 members of a Dutch occupational pension plan. The participants were asked to allocate their real projected pension accrual between a life annuity and a partial lump sum. In particular, we investigated the joint effects of consumption and investment frames and gain and loss frames. We present strong evidence for framing and default setting effects in annuity demand. We also find robust evidence of individual characteristics of influence annuity demand, highlighting the importance of heterogeneity among participants. Framing and default effects remain significant when we control for individual characteristics. We conclude Dutch plan members generally welcome the partial lump sum option over full annuitization. Framing and default settings are generally capable of predictively steering annuity demand. The precise effect framing may have also depends on the institutional environment, which predefines the perspective through which individuals filter annuities.

Section: Introductionmentioning

confidence: 99%

Framing and the annuitization decision – Experimental evidence from a Dutch pension fund

Bockweg

Ponds²,

Steenbeek

et al. 2017

“… 20 Chalmers and Reuter (2009) and Previtero (2010) show that annuitization rates vary negatively with recent equity market returns, perhaps reflecting shifts in workers’ confidence in their ability to generate high returns by investing their savings on their own. Hu and Scott (2007), Brown et al (2008), and Agnew et al (2008) argue that annuity demand is affected by framing, i.e. the arbitrary mental filter through which individuals interpret the annuity choice.…”

mentioning

confidence: 99%

Behavioral economics perspectives on public sector pension plans

Beshears¹,

Choi²,

Laibson³

et al. 2011

We describe the pension plan features of the states and the largest cities and counties in the U.S. Unlike in the private sector, defined benefit (DB) pensions are still the norm in the public sector. However, a few jurisdictions have shifted toward defined contribution (DC) plans as their primary savings plan, and fiscal pressures are likely to generate more movement in this direction. Holding fixed a public employee’s work and salary history, we show that DB retirement income replacement ratios vary greatly across jurisdictions. This creates large variation in workers’ need to save for retirement in other accounts. There is also substantial heterogeneity across jurisdictions in the savings generated in primary DC plans because of differences in the level of mandatory employer and employee contributions. One notable difference between public and private sector DC plans is that public sector primary DC plans are characterized by required employee or employer contributions (or both), whereas private sector plans largely feature voluntary employee contributions that are supplemented by an employer match. We conclude by applying lessons from savings behavior in private sector savings plans to the design of public sector plans.

“…One important issue is the flaws in the expected utility hypothesis that arise from risk aversion. Hu and Scott (2007) have explained the annuity puzzle by assuming that retirees are loss-averse rather than risk-averse, and make annuity decisions based on CPT (Tversky and Kahneman, 1992). They also extend the application of CPT to deferred annuities and guaranteed annuities, showing that the deferred annuity becomes optimal only when the first payment starts on or after age 93.…”

Section: Literature Reviewmentioning

confidence: 99%

“…When evaluating this annuity, the cash flows involved are exactly the same as the immediate annuity purchased at age 65 (scenario a); however the perceived value may be different because the decision is made at an earlier age. If an individual decides to convert the lump sum A into an annuity at retirement, the overall perceived value of this investment for the individual is: To determine whether an actuarially fairly priced annuity is attractive to purchase, we follow Hu and Scott (2007) to use the ‘relative difference between reservation price and fair price’, R , as the benchmark measure: The ‘reservation price’, also called the ‘maximum acceptable price’, is the annuity price that would make an individual indifferent to buying an annuity. According to the valuation functions above, the reservation price is the initial price, A , that makes the hyperbolic present value of an annuity, V , equal to zero.…”

Section: Annuity Valuationmentioning

confidence: 99%

The implication of the hyperbolic discount model for the annuitisation decisions

Chen

Haberman

Thomas

2019

The low demand for immediate annuities at retirement has been a long-standing puzzle. We show that a hyperbolic discount model can explain this behaviour and results in the attractiveness of long-term deferred annuities. With a set of benchmark assumptions, we find that retirees would be willing to pay a much higher price than the actuarial fair price for annuities with longer deferred periods. Moreover, if governments were to introduce a pre-commitment device which requires pensioners to make annuitisation decisions around 10 years before retirement, the take up rate of annuities could become higher.