NCPA - National Center for Policy Analysis

Automatic 401(k) Enrollment and Wealth Accumulation

June 18, 2002

Employees tend to be "passive decision makers," taking the path of least resistance when it comes to their 401(k) plans, according to researchers -- thus giving employers a great degree of control over savings and investment decisions employees make in their plans. One design feature that has increased in popularity over the past few years is automatic enrollment.

Using administrative data from three companies, researchers conduct a detailed study on the impact of automatic enrollment on 401(k) savings outcomes.

  • Automatic enrollment has a dramatic impact on retirement savings behavior: 401(k) participation rates at all three companies exceed 85 percent, regardless of the tenure of the employee.
  • Prior to automatic enrollment, 401(k) participation rates ranged from 26 percent to 43 percent after six months of tenure at the three firms and 57 percent to 69 percent after three years.
  • The researchers also find that the participation increases are most important for those least likely to participate in standard retirement savings plans: the young, lower-paid, black, and Hispanic employees.

Employees hired under automatic enrollment tend to stick with the low company-specified default contribution rate (2 percent or 3 percent for the three companies studied) and to remain in the default (conservative) investment fund chosen by the company (either a stable value or a money market fund). After two years of tenure, 40 percent to 54 percent of participants are still at the default.

While automatic enrollment encourages 401(k) participation, it anchors participants at a low savings rate and in a conservative investment vehicle. Higher participation rates promote wealth accumulation but the low default savings rate and the conservative default investment fund may actually lower employee wealth accumulation over a long period.

Source: Andrew Balls, "The Path of Least Resistance in 401(k) Plans," NBER Digest, April 2002; based on James Choi, David Laibson, Brigitte Madrian and Andrew Metrick, "For Better or for Worse: Default Effects and 401(k) Savings Behavior," NBER Working Paper No. 8651, December 2001, National Bureau of Economic Research.

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