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What Bagels, Loss Aversion, and Reframing the Company Match Can Show the 401k Fiduciary About How to Help Employees Save More Money for Retirement

What Bagels, Loss Aversion, and Reframing the Company Match Can Show the 401k Fiduciary About How to Help Employees Save More Money for Retirement
February 27
00:29 2018

Research shows people are more likely to lose weight if threatened with a financial loss rather than offered financial reward (“Framing Financial Incentives to Increase Physical Activity Among Overweight and Obese Adults: A Randomized, Controlled Trial,” Patel et al, Annals of Internal Medicine, March 15, 2016). The concept of “loss aversion,” the mechanism used in these trials, grew from studies conducted almost half a century ago. “Evidence that people are more likely to act in order to prevent a loss rather than receive a comparable gain can be found in Daniel Kahneman and Amos Tversky’s article in Econometrica March 1979, “Prospect Theory: An Analysis of Decision Under Risk,” says Wendela Whitcomb Marsh, Board Certified Behavior Analyst at PIPS: Promoting Independence and Problem Solving in Salem, Oregon.

Loss aversion may be an artifact of our evolutionary existence. “It is ingrained in our species to survive under stressful events,” says Julita Haber, Ph.D. Clinical Assistant Professor, Management in the Gabelli School of Business at Fordham University in New York City. “In human development for thousands of years, survival was dependent on stress releasing mechanisms to move and take action. Therefore, human impulsive reactions are programmed to protect and avoid losses in order to ensure survival. When it comes to potential gains, humans can ‘afford’ to take risks and not react as their survival will not be in danger.”

Though we may thank loss aversion for helping our species survive through the eons, many see it as a potential Catch-22 that holds us back today. “There are myriad studies that indicate avoiding loss is a primary motivating factor in human decisions,” says Kate Balestrieri, Psy.D., Co-Founder, Executive Director, and Licensed Psychologist at Triune Therapy Group in Los Angeles, California. “In their book Scarcity, Mullainathan & Shafir (2013) eloquently discuss the scarcity mindset, in which humans place more value on what is feared, or realized as lost. They note that scarcity breeds scarcity, which many of us might recognize in various life arenas. For instance, one must often have experience in order to get a coveted job, however one cannot obtain experience without first being opportunity to gain it. This is true with food, relationships, and money as well. The old adage, ‘You have to spend money to make money,’ is a commonly understood paradigm in the business world.”

Thus, survival in the face of scarcity becomes this decision making heuristic common to our species – avoid losses! “The work of Amos Tversky and Daniel Kahneman since the 70s has shown a marked preference – twice the effect – for loss prevention over any gains a situation might offer,” says Margaret J. King, Ph.D., Director at the Center for Cultural Studies & Analysis in Philadelphia, Pennsylvania. “Showing evidence for this behavior across the board (in investing, for example) indicates that human beings are loss averse: that is, we want always to be assured that what we have today, we’ll also have tomorrow. It assures survival when resources are scarce, which is why it’s hardwired. This bias of course blocks our ability to take bets on the future of the stock market, as in prospect theory.”

Despite its seemingly omnipresent validation, the more precise (and most useful) truth regarding loss aversion is that it’s not universal. In the paper “When Do Losses Loom Larger Than Gains,” (Dan Ariely, Joel Huber, and Klaus Wertenbroch, Journal of Marketing Research, May 2005), the authors state “Another aspect of loss aversion is reference dependence. Without reference dependence, the concept of losses looming larger than gains might not have had such a deep impact on psychology and economics…Reference-dependent loss aversions specifies that losses with respect to a current endowment loom larger than gains.”

Bagels, Loss Aversion, and Weight Loss

What does “reference-dependent” mean in real life? Dave Popple PhD, President of Psynet Group in New York City, recalls a situation-specific instance which proved the practical value of using the decision-making leverage possessed by loss aversion. He took this Dark Side phenomenon and turned to towards the good. “I can tell you that I initially played around with the loss aversion idea with an organization that was trying to become healthy,” says Popple. “I had just read “Think Fast Think Slow” [written by Daniel Kahneman] and asked to coach one of the teams in a weight loss contest. There were ten on the team I was helping. We started the event with everyone identifying a realistic ideal weight that was achievable within the time frame of the contest. We then identified 3-5 foods that were problem foods. Bagels were on everyone’s list. The surprising one was Portuguese egg tarts. One off the co-workers picked them up in Newark every week. We asked that every time they cheated with one of the foods, they needed to add a pound to that ideal weight. The idea is that they are losing the ideal. Out of ten teams, they lost the highest percentage of weight and second highest total.”

While Popple’s experience is more anecdotal, research like Patel et al provides the scientific basis for what Popple saw. Why does loss aversion show up so frequently in experiments? “Eldad Yechiam suggested that the reason for this is that people tend to exaggerate or complain about losses as opposed to gains, and that losses increase our arousal,” says Marsh. “He explains this more fully in his Science Brief for the American Psychological Association’s Psychological Science Agenda January 2015, ‘The psychology of gains and losses: More complicated than previously thought.’”

When confronting the prospect of losing something of value, that familiar “click-whirr” of our internal thought process can also produce chemical reactions. “Facing or thinking of a potential loss may manifest itself in the form of the fear of failure (Mahone, 1960) that evokes stress and triggers emotional charge and physiological changes mimicking the ‘fight’ or ‘flight’ response,” says Haber. “The stress prompts adrenal glands to release hormones, including adrenaline and cortisol. The fear of failure driven by cortisol tends to elicit stronger reactions than the reward system of emitting dopamine levels when faced with a potential gain. Dopamine is a neurotransmitter that is synthesized and released in the mesolimbic dopamine pathway and is associated with reward and motivation.”

The connection between losing money and losing weight might be less complicated than we think. “Financial loss causes adrenaline which causes them to worry and to lose weight,” says Chuck Lewis, Relationships Coach at Lewisapproach, LLC in Los Angeles, California. “Financial gain causes endorphins which causes them to celebrate, eat more and gain weight.”

A Bird In the Hand is Worth Two in the Bush

How can lessons about losing weight bring home some facts about losing money? It could very well be loss aversion is a defensive reaction that allows us to consolidate our current gains at the expense of future gains. “When we have little to no resources, their value becomes inherently more valuable, and our reaction to such a dearth becomes akin to death,” says Balestrieri. “From an evolutionary psychology perspective, death may in fact be imminent without the ability to pay for things. In this example, a threat to one’s money limits one’s ability to earn more, supply additional resources (i.e., food, shelter, healthcare, etc.) and truly compromises one’s survival. In contrast, incentives for more money are a luxury, not a necessity. Everyone reading this article can think of one or two things a few extra dollars would fund in their lives, perhaps a vacation or that newest technology-based toy, but the reality is they are likely getting by with what they have. Threaten to deplete their funds and suddenly an ecologically sound panic reaction kicks into overdrive and the motivation to avoid that scarcity is more palpable.”

Reference dependence, though, suggests that all money losses are not created equal. Joel Huber, Alan D. Schwartz Professor of Marketing, Fuqua School of Business at Duke University in Durham, North Carolina, says, “We are certainly averse to losing savings that are in money terms. However, when we thinking of buying something with money, the idea is that money is there to be spent, not to be held.  By contrast there is aversion to losing items we paid for with money. They become part of our identity. That is called the endowment effect. We are loss averse to any item including money that helps define who we are.”

How to Use Loss Aversion to Encourage Employees to Save More for their Retirement

If it is true the fear of loss motivates people more than the offer of a gain, then the traditional 401k company match framework is designed improperly. Currently, employees are promised a reward for contributing in their 401k plan. Think of this as the carrot urging people to save for their retirement. What if, instead of using a carrot, plan sponsors reframe the “match” in terms of a stick?

For example, could the company tell employees they have $1,000 at the beginning of the year and, for every dollar less than $1,000 their 401k contribution is, they will lose a dollar from that $1,000? It’s still a match. It’s just described as a loss rather than a reward.

“It’s not against ERISA or the Code because a matching contribution doesn’t violate the contingent benefit rule,” says Ary Rosenbaum of the Rosenbaum Law Firm in Garden City, New York. “Contingent benefit rule means that you can’t condition a benefit based on someone participating in a 401k plan through deferrals or not. However, a match is the exception to that rule.”

Jack Towarnicky, Executive Director, Plan Sponsor Council of America is not aware of any companies that are framing the 401k company match in terms of loss aversion. He does see companies using some form of “True-Up,” where periodic statements indicate what the employee needs to contribute for the remainder of the year in order to receive the maximum match. For example, he says, “every calendar quarter, a ‘True-Up’ calculation is reported showing how much the maximum match would have been, what the actual match was, and the ‘loss’ – where the statement also confirms the opportunity to true up.”

Of course, a plan sponsor that wants to be truly aggressive might issue reports that highlight the future retirement money lost – in real dollar terms. Towarnicky says, “an amount that would be an eye-opener for most millennials would be to provide a separate communication that confirms the amount of match left on the table that year. Then, if you want to see jaws drop, show the worker a projection of the impact on the account balance – assuming the status quo deferral and match rate, compared to the amount of contribution needed to obtain the full match, and assuming, say, a 6% return – projecting up to the Required Beginning Date for Minimum Required Distributions.”

One wonders how many bagels would be purchased as a result of the ensuing anxiety.

Christopher Carosa is a keynote speaker, journalist, and the author of  401(k) Fiduciary SolutionsHey! What’s My Number? How to Improve the Odds You Will Retire in Comfort and several other books on innovative retirement solutions, practical business tips, and the history of the wonderful Western New York region. Follow him on Twitter, Facebook, and LinkedIn.

Mr. Carosa is available for keynote speaking engagements, especially in venues located in the Northeast, MidAtantic and Midwestern regions of the United States and in the Toronto region of Canada.

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Christopher Carosa, CTFA

Christopher Carosa, CTFA

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