Standard and Behavioral Life-Cycle Theories and Public Policy

Abstract

Behavioral life-cycle theory is centered on the hypothesis that even people who want smooth spending during their entire life cycle, as predicted by standard life-cycle theory, find it difficult to avoid cognitive and emotional errors and to balance wants for spending now and wants for saving for tomorrow. Behavioral life-cycle theory says that we reconcile the conflict between our wants via personal devices and public policies of nudges and shoves by government and employers. Personal devices include framing, mental accounting, and self-control rules that prohibit dips into other-than-designated mental accounts. Public policies include nudges, such as automatic enrollment into voluntary direct contribution (DC) plans, and shoves such as mandatory Social Security. Discussions about public policies to promote adequate life-cycle saving and spending should address issues such as the promotion of financial well-being, alleviation of retirement crises, features of good DC plans, and the benefits of financial literacy and its alternatives. The author presents these questions here, along with his own explorations and answers.

TOPICS: Retirement, in wealth management, social security, legal/regulatory/public policy