News that House Ways and Means Chairman Bill Thomas will support opt-out 401(k) accounts as a part of Social Security reform legislation:
Automatic Signup In 401(k)s Backed - Provision Eyed for Social Security Bill, By Jonathan Weisman, Washington Post: House Ways and Means Chairman Bill Thomas (R-Calif.) will include a provision in his Social Security legislation to help employers make enrollment in 401(k) plans automatic unless workers choose to opt out, according to congressional staff and knowledgeable lobbyists. The provision could have substantial impact on the nation's savings rate … Recent academic research has shown that employee participation rates soar among companies with automatic enrollment in retirement plans. … lobbyists who have met with Thomas say he has given his word on the matter.
… According to two lobbyists familiar with the discussions, Thomas has suggested to life insurance interests that he would back incentives for employers to convert 401(k) balances to private annuities that would pay out slowly over a worker's retirement. In exchange, the life insurance industry would not work against a dramatic expansion of Individual Retirement Accounts, 401(k)s and tax incentives designed to expand personal retirement savings. … Economists of all political stripes like it because it appears to work. … Mandating automatic enrollment would easily create $20 billion in new retirement savings a year, said Peter R. Orszag, director of the Retirement Security Project … If Congress pushed employers to slowly increase contribution rates over time, savings would increase well in excess of $50 billion a year. …
I’ve been wondering whether to support such a proposal. The first question I had, which I asked here, was what market failure justifies intervening to increase saving? If the loanable funds market works, wouldn’t the saving rate, whatever it is, be optimal? Through comments and an email, I am now convinced that taxes drive a wedge between private and social investment returns, that myopia might play a role, and that moral hazard may also be a problem resulting in saving below the golden rule level. Thus, I am now comfortable with government intervention to create incentives to increase private saving.
That brings me to opt-out. I believe it increases saving relative to opt-in, but why is this so? Do some people perceive the transactions costs of changing status to be greater than the benefits irrespective of whether they are asked to opt-in or opt-out? In general, I hate opt-out programs. I don’t want to spend my time filling out forms and checking boxes telling people all the things I don’t want to buy. If I’m convinced there is market failure in the market for bicycles resulting in too few being purchased, is the proper solution to drop bicycles in people’s yards unless they remember to send in the proper paperwork? I remember being in music clubs like that when I was younger… Maybe a better answer is to work a little harder on the incentives and ease of opting-in.
Last, I worry we have forgotten the Lucas critique yet again. Change the rules and change the behavior. I can imagine that if you impose opt-out now when it is uncommon participation might be high. But as it becomes more common and institutionalized people will more easily opt-out. In addition, it also seems participation rates will fall in the long-run as people hit financial stress points. If you can opt-out at will, then the first time a family faces financial distress, they will likely opt-out. Unless they are somehow brought back into the program later, participation rates will fall as time passes and revenues may not meet projected values.