The power of suggestion: Inertia in 401(k) participation and savings behavior (Madrian & Shea 2001)
Madrian, B. C., & Shea, D. F. (2001). The power of suggestion: Inertia in 401(k) participation and savings behavior. The Quarterly Journal of Economics, 116(4), 1149-1187.
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- The study examined the impact of two simultaneously implemented changes in the 401(k) plan of a large, Fortune 500 company: (1) automatic enrollment into the plan immediately after hire (a change from requiring employees to opt in to the plan to requiring them to opt out); and (2) removing the one-year tenure requirement for employees to participate in the 401(k) plan, enabling immediate contributions for employees with less than one year of tenure at the firm.
- The study used employee-level data from the company. It used an interrupted time series design to compare the participation and contribution rates of those hired before the company’s 401(k) plan changes to the behaviors of those hired after the changes were implemented. The authors compared employees subject to changes (1) and (2) to those subject to change (2) only and those subject to change (2) only to those subject to neither change.
- Employees subject to both immediate contributions and automatic enrollment had higher 401(k) participation rates and lower 401(k) contribution rates than those subject to immediate contributions only. Employees subject to immediate contributions had only slightly higher participation rates compared with those not subject to either plan change.
- The quality of causal evidence presented in this report is low. This means we are not confident that the estimated effects are attributable to the company’s changes to its 401(k) plan design. Other factors are likely to have contributed.
The study examined two significant changes in the 401(k) plan of a large, publicly traded Fortune 500 company. The employees included in the study had worked at the company for 3 to 15 months.
The two design changes took effect on April 1, 1998. First, all employees became eligible to participate in the 401(k) plan regardless of how long they had been at the company (there was previously a one-year waiting period). Second, all new employees hired after April 1, 1998, were automatically enrolled in the 401(k) plan at a 3 percent contribution rate (unless the employee opted out or changed the contribution rate). This contribution was allocated to a money market fund unless the employee requested otherwise. Both before and after the changes, when an employee reached one year of tenure, the company matched the first 6 percent of income contributed to the 401(k) at 50 percent. Additionally, 401(k) contributions were capped at 15 percent of income throughout the study period.
Data from the company included individual employees’ 401(k) participation status, contribution rates, fund allocations, age, gender, race, tenure, and salary. The authors used an interrupted time series design to measure the effect of immediate contributions and automatic enrollment on employees’ participation and contribution rates. The effect of automatic enrollment was measured by comparing outcomes for a new cohort of employees who were hired within one year after the change (eligible for both automatic enrollment and immediate contributions), with a window cohort of employees who were hired within one year before the change (eligible for the immediate contributions but not automatic enrollment). The effect of immediate contributions was estimated by comparing outcomes for the window cohort with the old cohort who had been at the company for more than a year when the changes were implemented and were thus not affected by either change. The authors controlled for differences in tenure by using outcomes for the comparison group one year before those used for the intervention group. Thus, each cohort included in the model had been employed for 3 to 15 months at the time of data collection.
Using unadjusted means, the authors also estimated impacts for a number of subgroups based on gender, race, age, and compensation level.
The study examined a large, Fortune 500 company in the health care and insurance industries with locations in 38 states, the District of Columbia, and Puerto Rico.
- Employees in the new cohort were 50 percentage points more likely to participate in the 401(k) plan than employees in the window group; employees in the window group were 4 percentage points more likely to participate than those in the old group (who were not eligible for immediate contributions or automatic enrollment).
- The average contribution rate for the new cohort was 2 percentage points lower than that of the window cohort.
- Increases in participation rates within the new group compared with the window group were greatest for women (50 versus 43 percentage points for men), the youngest employees (57 versus 26 percentage points for the oldest employees), and the lowest earners (67 versus 26 percentage points for the highest earners).
Considerations for Interpreting the Findings
The authors examined a single change in the 401(k) plan of one company. The company implemented automatic enrollment because it did not meet the Internal Revenue Service’s nondiscrimination tests designed to ensure the fair allocation of benefits among higher- and lower-paid employees. Thus, there is some concern that changes in 401(k) participation and contribution rates might have occurred even in the absence of the intervention.
The workforce of the company studied was similar demographically to the U.S. workforce as a whole, except that 77.9 percent of its workers were female, compared with 46.9 percent of the U.S. workforce as a whole. The company’s employees were also more likely to be full-time and have higher median and mean compensation than the workforce as a whole.
Causal Evidence Rating
The quality of causal evidence presented in this report is low because there is evidence that existing low participation and contribution rates at the company influenced the timing of the intervention. In addition, the study did not include a sufficient number of demonstrations or observations. This evidence rating means we are not confident that the estimated effects are attributable to the company’s 401(k) plan changes. Other factors are likely to have contributed.
To provide more convincing evidence of the intervention’s effects that satisfies Clearinghouse for Labor Evaluation and Research criteria, the authors should consider examining how similar policy changes at other firms, which were not implemented in response to concern about existing 401(k) participation rates, affected employees’ 401(k) allocations. If other implementations demonstrated similar effects, we could be more confident that changes in outcomes were driven by the intervention, and not some other concurrent change.