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Early contributors: a theory of intertemporal choice
One of the key aspects of savings decisions relates to the trade-off between current and future consumption. As a result many of the issues surrounding these decisions are considered in terms of intertemporal choices. Frederick, Loewenstein & O’Donoghue (2002:351) define intertemporal choices as “… decisions involving tradeoffs among costs and benefits occurring at different times”. The early work on developing a theory of savings initially focussed on the concept of intertemporal choices with the aim of determining why people discount the future (Loewenstein, 1992). John Rae is credited with being the first economist to consider the concept of intertemporal choice as it related to choices between current and future utility (Frederick et al., 2002). Rae’s work was first published in 1834 under the title, The New Principles of Political Economy (his 1905 book Sociological Theory of Capital was merely a reprint of this first book). Rae (1905) was very aware of the psychological aspects which influenced decisions about current and future time periods. He postulated that if humans lived forever then reason would be the key driving force in determining current sacrifices for future needs. However, the uncertainty of both life span and ability to enjoy future consumption resulted in a situation where people placed their present needs much higher in priority than any future needs.
Rae was of the opinion that a number of factors influenced the decision to save or consume. One key factor was limited self-control which arose from the temptation of immediate consumption which Rae explained as follows: “The actual presence of the immediate object of desire in the mind, by exciting the attention, seems to rouse all the faculties, as it were, to fix their view on it, and leads them to a very lively conception of the enjoyments which it offers to their instant possession. The prospects of a future good, which future years may hold out to us, seem at such a moment dull and dubious, and are apt to be slighted, for objects on which the daylight is falling strongly, and showing us in all their freshness just within our grasp.” (Rae, 1905:54). Rae noted that there were factors which could influence an individual to exercise self-control. According to him individuals would make a sacrifice for an uncertain future if they were concerned about providing for future generations or possessed, as he termed it, “… social and benevolent affections” (Rae, 1905:57). In addition, he believed that intellect played a role in individuals being able to take action which would ensure future benefits through the ability to apply reflective thought and prudence. He was also of the opinion that the level of law and order in a society would play a role in savings decisions. In general he believed that the less uncertainty that existed in a society (free from war, disease, hazardous occupations etc.) the more likely the society as a whole would be able to focus on providing for future needs. Rae therefore concluded that choices about current or future consumption were influenced by what he called “… the desire for accumulation” (Rae, 1905:53) and it was his belief that the level of desire for accumulation would differ between individuals and societies in line with the presence or absence of uncertainty, self-control, concern for future generations and intellect.
Computational limitations
The life-cycle hypothesis requires individuals to possess advanced computational capacity to solve what Thaler (1994:186) terms “… a multiperiod dynamic optimization problem”. Thaler highlights a number of factors that impact on the ability to solve such problems including the complexity of the problem and how often an individual is required to solve the problem. He concludes that savings decisions are by their very nature hard to solve, and individuals are not in a position to learn from past mistakes as they are planning for a once in a lifetime event such as retirement (Thaler, 1994:187). Studies have shown that individuals are not very adept at solving savings problems. According to a 2003 survey conducted by the Employee Benefit Research Institute, less than 40% of workers in the United States had calculated how much they needed to save for retirement (Mitchell & Utkus, 2004:5). Kahneman is quoted by Bernstein (2007:5) in Capital Ideas Evolving as noting that “The failure in the rational model is… in the human brain it requires. Who could design a brain that could perform in the way this model mandates? Every single one of us would have to know and understand everything, completely and at once.” The idea that humans are limited in their ability to carry out the computations necessary for making optimal rational decisions is often referred to as bounded rationality. Herbert Simon is credited as being the first person to use the term “bounded rationality”. The concept developed from his writings on decision making between 1947 and 1957 (Klaes & Sent, 2005:37). Simon (1987:266) defined bounded rationality as referring to “… rational choice that takes into account the cognitive limitations of the decision-maker – limitations of both knowledge and computational capacity.
Given these limitations, it is no longer sufficient to conclude that, as postulated by the lifecycle hypothesis, individuals left to their own devices will always choose the most optimal savings level. Instead consideration needs to be given to the numerous factors that influence the individual in the savings decision process. The uncertainty regarding future growth rates, returns, income levels and other unknowns makes it particularly difficult to calculate an optimal savings rate, even among economists (Benartzi & Thaler, 2007:82). Usually when confronted by difficult computations, the human brain makes use of heuristics, or mental shortcuts, to solve problems, however, this process is only useful if there are good heuristics or rules of thumb to apply. Thaler (1994:187) mentions that he is not aware of any useful savings heuristics which are commonly applied. In the absence of useful heuristics, another source of information for individuals who are trying to establish what to save would be from external cues (Akerlof & Shiller, 2009:119). These could include cues provided by authority figures, the advice of individuals perceived as experts and the actions of peers or society in general (Benartzi & Thaler, 2007:94).
CHAPTER 1 INTRODUCTION
1.1 OVERVIEW
1.2 PROBLEM STATEMENT
1.3 RESEARCH OBJECTIVES
1.4 THESIS STATEMENT
1.5 DELIMITATIONS AND LIMITATIONS
1.6 ASSUMPTIONS
1.7 IMPORTANCE AND BENEFITS OF THE PROPOSED STUDY
1.8 RESEARCH DESIGN AND CHAPTER OVERVIEWS
CHAPTER 2 SAVINGS BEHAVIOUR
2.1 INTRODUCTION
2.2 DEVELOPMENT OF SAVINGS THEORY
2.3 BEHAVIOURAL ISSUES IN SAVINGS DECISIONS
2.4 IMPORTANCE OF THE INDIVIDUAL AS DECISION MAKER
2.5 DEFINED BENEFIT AND DEFINED CONTRIBUTION RETIREMENT SCHEMES
2.6 THE INDIVIDUAL AS DECISION MAKER IN RETIREMENT PLANNING DECISIONS
2.7 CONCLUSION
CHAPTER 3 RETIREMENT FUND PRESERVATION – DEVELOPING A CONCEPTUAL MODEL
3.1 INTRODUCTION
3.2 EVIDENCE OF LACK OF PRESERVATION OF RETIREMENT FUNDS
3.3 POTENTIAL REASONS FOR EARLY WITHDRAWALS
3.4 POTENTIAL SOLUTIONS
3.5 PROPOSED CONCEPTUAL MODEL
3.6 PREVIOUS STUDIES
3.7 CONCLUSION
CHAPTER 4 RESEARCH METHOD & RESEARCH INSTRUMENT DESIGN
4.1 INTRODUCTION
4.2 DESCRIPTION OF OVERALL RESEARCH DESIGN
4.3 METHOD
4.4 LIMITATIONS
4.5 ETHICAL PROCEDURES
4.6 CONCLUSION
CHAPTER 5 RESEARCH FINDINGS
5.1 INTRODUCTION
5.2 THE PRESERVATION DECISION
5.3 PREDICTOR VARIABLES: BOUNDED WILLPOWER
5.4 PREDICTOR VARIABLES: BOUNDED RATIONALITY
5.5 PREDICTOR VARIABLES: RATIONAL FACTORS
5.6 CONCLUSION
CHAPTER 6 MODEL BUILDING AND HYPOTHESIS TESTING
6.1 INTRODUCTION
6.2 LOGISTIC REGRESSION MODEL: BOUNDED WILLPOWER
6.3 LOGISTIC REGRESSION MODEL: BOUNDED RATIONALITY
6.4 LOGISTIC REGRESSION MODEL: RATIONAL FACTORS
6.5 COMPARISON OF RATIONAL VERSUS BEHAVIOURAL MODELS
6.6 BUILDING A COMBINED MODEL
6.7 CONCLUSION
CHAPTER 7 ANALYSIS OF FINDINGS – TOWARDS A SCIENTIFIC MODEL
7.1 INTRODUCTION
7.2 THE PRESERVATION DECISION
7.3 BOUNDED WILLPOWER
7.4 BOUNDED RATIONALITY
7.5 RATIONAL MODEL
7.6 SUMMARY OF FINDINGS
7.7 MODEL COMPARISON: BEHAVIOURAL MODEL VERSUS RATIONAL MODEL
7.8 COMBINED MODEL
7.9 KEY PREDICTORS IN THE CONTEXT OF THE CONCEPTUAL MODEL
7.10 PROPOSED SOLUTIONS
7.11 TOWARDS A SCIENTIFIC MODEL
7.12 CONCLUSION
CHAPTER 8 CONCLUSION
8.1 INTRODUCTION
8.2 SUMMARY OF FINDINGS
8.3 CONCLUSIONS
8.4 SUMMARY OF CONTRIBUTIONS
8.5 SUGGESTIONS FOR FURTHER RESEARCH
