A Response to the Department of the Treasury/Department of Labor

Request for Information Regarding Lifetime Income Options

for Participants and Beneficiaries in Retirement Plans

Behavioral Finance and the

Post-Retirement Crisis

Prepared by

Shlomo Benartzi, UCLA 

Sponsored and submitted by

Allianz of America

April 29, 2010
Foreword

Allianz is pleased to submit this response to the Request for Information Regarding Lifetime Income Options for

Participants and Beneficiaries in Retirement Plans. As we contemplated what form our response would take,

we came to the conclusion that we could make a valuable contribution by complementing the more technical,

product-specific RFI responses (including the response from Allianz Life) with insight on the equally important

behavioral aspects of retirement decision-making. After all, such decisions will have a direct impact on retirees'

quality of life in the years after they retire—the period we are calling “post-retirement.” 

With the shift from defined benefit plans to defined contribution plans, it is increasingly individuals—rather than

institutions—who are required to make complex, life-altering decisions about how much to save and how to make 

those savings last. As this responsibility is transferred to individuals, we believe that understanding how and why

they make decisions is critical to developing effective policy and designing plans that encourage sponsors and their 

participants to choose wisely. 

We knew there was a vast body of academic research on behavioral finance which we believed could make a

significant contribution to this discourse, so we asked Prof. Shlomo Benartzi of UCLA to help us reach out to some of the 

leading academics in the field. We then asked each one what key insight they believed would be most important 

for government and business to consider in crafting policy and developing solutions to counteract the looming

post-retirement crisis. We are pleased to deliver their insights within this response. As you will see, we have taken

particular care to ensure that these ideas can be easily translated into practical and workable solutions. 

Allianz is committed to sharing knowledge. We seek to provide the best insight and perspective from around

the globe to help individuals, along with their financial advisors, make better financial decisions throughout their lives.

In particular, we believe we share a responsibility to help the millions of current and future retirees, both in the US

and abroad, achieve a secure and dignified retirement. With so many nearing retirement ill-prepared, a crisis is most

assuredly in the making. We believe that averting such a crisis will require the full engagement and collaboration

of government, the financial industry, plan sponsors, financial advisors, the academic community, and individuals 

alike. The RFI process is an important first step in this collaboration. 

We would like to offer our thanks to Prof. Benartzi for leading this effort on our behalf and to all the academics

who generously provided their insights.

To best understand how and why individuals make decisions about their finances, and in 

particular, their retirement, we must consider the behavioral factors behind those decisions 

before we can even begin to address the more technical and product-specific dimensions of 

retirement. We humans, it turns out, are not the rational, mechanical decision-makers often 

described in textbooks. 
Table of Contents

Introduction – Prof. Shlomo Benartzi  

Framing – Prof. Jeffrey Brown. 

Vividness – Prof. Daniel G. Goldstein  

Hyper Loss Aversion – Prof. Eric Johnson. 

Cognitive Impairment – Prof. David Laibson. 

Tangible Mental Accounts – Prof. George Loewenstein  .

Inertia – Prof. Brigitte Madrian. .

Evaluability – Prof. John Payne. .

Active Decision-Making – Dr. Alessandro Previtero. .

Money Illusion – Prof. Eldar Shafir. .

Fairness – Prof. Suzanne Shu  .

Summary & Checklist – Prof. Shlomo Benartzi. .

This document has been compiled by Allianz of America. Allianz of America is part of the

Allianz Group, one of the leading integrated financial services providers worldwide. With

approximately 153,000 employees around the globe, the Allianz Group serves approximately 

75 million customers in about 70 countries. In the U.S., Allianz companies offer a wide range

of investment and insurance products and services.
4

By Prof. Shlomo Benartzi of UCLA

Many observers today are actively discussing the

so-called retirement crisis. They note that people 

do not save enough and will not accumulate sufficient

assets to retire comfortably. They maintain that 401(k) 

plan participants frequently make poor investment 

decisions, and in extreme cases such as Enron, these

dubious decisions resulted in employees losing a large 

portion of their retirement savings.

This report focuses on a related issue: The “post-retirement” crisis. While the retirement crisis centers on 

the financial struggles of people saving for retirement, the post-retirement 

crisis focuses on the financial difficulties of people near or in retirement.

To illustrate the unique financial 

complexities facing retirees, consider 

10 high school friends who decide to 

retire at age 65. Now, guess when the 

first of those 10 friends will die. As it 

turns out, the first death is likely to

occur only four years into retirement, at age 69. Next, try 

guessing when the last person will die. The answer is

34 years into retirement, at age 99!1

Put differently, one retiree needs to pay for just four 

years of expenses whereas another has to pay for almost 

ten times more, that is, for 34 years of expenses. Thus, 

the risk of retirees outliving their money is significant. 

One might also argue that this “longevity risk” is actually 

far greater than investment risk, since the variability

of longevity seems far greater than the variability of

investment returns.

The post-retirement crisis is about outliving your

assets. The effects of this crisis become worse as employers switch from defined benefit plans to defined

contribution plans. In the past, longevity risk was borne 

by employers who provided employees with defined 

benefit pension plans and guaranteed income for life. 

Today, employers offer defined contribution plans, such 

as 401(k)s, where employees must bear the responsibility for making sure they do not outlive their assets.

The post-retirement crisis is magnified by the poor

financial decision-making of retirees. For example, those 

retiring after stock market increases of six to 12 months 

are much more likely to select the lump 

sum option rather than lifetime income 

(Previtero, 2010). It is a concern that

retirees make such long-term financial

decisions based on very recent short-term 

stock market performance, especially given 

that some of these decisions are irreversible. Clearly, retirees are struggling to make 

sensible investment decisions.

Retirees also do a poor job of calculating how much 

they can spend each month. Some retirees spend too 

much during the early years of retirement, leaving too 

little for later years. In addition, older women see a 47% 

drop in income following the death of their husbands. 

As a result, about one in five widows ends up in poverty 

(Holden and Zick, 2000).

There are many different “toolboxes” that could be 

used to address the post-retirement crisis. In this report, 

we open the behavioral finance toolbox to look for explaIntroduction:

Behavioral Finance and the Post-Retirement Crisis

Of 10 people 

who reach age 

65, one will pay 

for just four years 

of expenses and 

another will pay 

for 34 years of 

expenses.

1 Author's own calculations based on the IRS unisex actuarial table.

Continued on page 5

About one fifth 

of widows end 

up in poverty 

following the 

deaths of their 

husbands.
5

nations of, and solutions to, the crisis. Behavioral finance 

is a combination of finance and behavioral science. It is 

about understanding how people actually make financial decisions, what money mistakes they make, and 

most importantly, how we can help them make better 

decisions.

There are three key reasons why we decided to use the 

behavioral finance toolbox. First, whereas in the older 

defined benefit plans the key to success was investment 

performance only, the success of the newer defined contribution plans depends on a combination of investment 

performance and the human element. And, since the

responsibility for managing money is shifting from

employers to employees and retirees, the human element is vital to understanding how retirees manage—or

mis-manage—their savings and critical to designing 

better solutions and policies.

Second, behavioral finance has already positively

affected the accumulation phase and how people save 

for retirement. The influential work of behavioral economists James Choi, David Laibson Brigitte Madrian, and 

Andrew Metrick on inertia and automatic enrollment 

features changed the way providers and plan sponsors 

designed 401(k) plans and eventually boosted employee 

participation rates (Madrian and Shea, 2001; Choi et al, 

2004, 2002).

Similarly, my work with Richard Thaler on identifying 

behavioral obstacles to savings led us to develop Save 

More TomorrowTM, a program that allows employees

to pre-commit to increase their savings automatically 

every time they get a pay raise. In our first case study, deferral rates for program participants increased from 3.5% 

to 13.6% over three and a half years (Thaler and Benartzi, 

2004). The program is now offered by more than half of 

the large employers in the US, and a variant of the program was incorporated in the Pension Protection Act of 

2006 (Hewitt, 2010).

Third, we strongly believe that behavioral finance

offers significant insight into post-retirement financial 

decisions. For example, Eric Johnson from Columbia 

University researched the risk preferences of retirees and 

found that retirees are up to five times more sensitive to 

losses than the average person (AARP and ACLI, 2007).

David Laibson from Harvard University investigated 

cognitive impairment and its effect on financial

decision making. He found that half the people in their 

80s suffer from either dementia or significant cognitive

impairment that prevents them from making sound

financial decisions (Agarwal et al, 2009).

Alessandro Previtero (2010) from UCLA studied the

effect of active choosing on the decision to choose

lifetime income solutions. He found that when retirees 

have to actively choose between guaranteed lifetime

income and lump sum distributions, half of them

choose the lifetime income option, indicating significant 

demand for guaranteed income.

In this report, we describe the interviews we conducted over the last few months with top psychologists,

consumer behavior experts, and behavioral economists. 

We report on the unique behavioral insights each academic provides and 

how those insights affect post-retirement financial decisions. We also discuss the policy implications of the 

insights offered by this exceptional 

group of academics. Finally, we wrap 

up the report with a behavioral checklist to help policy makers and others evaluate retirement 

income strategies from a behavioral perspective.

We hope you enjoy reading about the behavioral

insights of this academic team and find that behavioral 

finance has the potential both to reshape the financial 

lives of retirees and to contribute to solving the post-retirement crisis.

The behavioral 

finance toolbox 

has the potential 

to reshape the 

financial lives of 

retirees.
6

Based on an interview with Prof. Jeffrey Brown of the University of Illinois

Consider the “70% rule” that advises people to plan 

on spending about 70% of their current income

during their retirement. For most people, this rule of 

thumb is intuitively appealing, which could explain why 

it has become so popular among financial planners.

Now let’s use slightly different lenses and reframe the 

70% rule as the 30% rule. That is, rather than focusing

on the 70% of expenditures someone would sustain

through retirement, let’s consider the 30% of expenditures that should be eliminated. Most people find the 

30% rule unpalatable, even though

the 70% and 30% rules are mathematically identical.

The comparison of the 70% and 30% 

rules highlights how seemingly small 

changes to the lenses or “frames”

we use can have a huge impact

on our decisions, including policy

issues (Tversky and Kahneman, 1981),

charitable giving (Gourville, 1998), and medical treatments (McNeil et al, 1982).

In the case of financial decision-making, Brown et al 

(2008) investigated the role of framing in choosing

lifetime income solutions. They asked more than 1,300 

individuals older than 50 to make a choice between:

1. A life annuity paying $650 each month until

death, or

2. A traditional savings account of $100,000 bearing 

4% interest.

The two choices were designed to have the same

actuarial value in order to ensure an apples-to-apples 

comparison.

Half the people in the study were presented with

the two options in a “consumption” frame, where the

annuity was described as providing monthly income of 

$650 for life. Of those viewing the consumption frame,

70% preferred the annuity. The other half were presented 

with the choices in an “investment 

frame,” where the annuity was described as an investment with a

$650 return for life. Only 21% of those

who viewed the choices in an “investment” frame selected the annuity. 

While the economic characteristics 

of the choice sets were essentially the 

same, the framing of the alternatives in terms of either 

monthly income or investment return had a dramatic

effect on the outcomes.

These results can be explained by the fact that

lifetime income solutions are perceived to be safe

when framed as a consumption plan because they

guarantee lifetime income. However, the same solutions 

are perceived to be quite risky when framed as an investment plan because the policy owner runs the risk of

dying early and relinquishing wealth to the insurer.

Clearly, the context in which retirement income

solutions are presented has a dramatic effect on their

attractiveness. If we agree that the underlying purpose of 

retirement plans is to provide income at retirement, it is 

more appropriate to frame those plans in terms of 

monthly income, not investment return.

Framing: 

Positioning Products as Income Solutions 

Dramatically Increases Their Attractiveness

Help consumers 

focus on future 

income needs 

rather than on

investment

return. The popularity

of lifetime income

solutions tripled

when monthly spending was emphasized 

rather than investment returns.
7

Based on an interview with Prof. Daniel G. Goldstein of Yahoo Research and London Business School

What will someone’s life be like in 20 years? It’s difficult to picture a time that’s so far away and

subject to change. Yet that’s precisely what employees 

are asked to do as they begin planning for a retirement 

that may last a third of their lives or more.

But what if new technology could make those

future images more real? How would that influence an 

employee’s financial decisions? Daniel Goldstein, along 

with Hal Ersner-Hershfield and other colleagues (in 

progress), is exploring these questions to see if people 

who connect more vividly with their future selves will 

make better financial choices.

Preliminary findings suggest that vividness does

improve outcomes. In previous work, Ersner-Hershfield, 

Jeremy Bailenson, and Laura Carstensen had participants enter an immersive virtual reality environment and see themselves in 

a virtual mirror. Half of participants 

saw digital representations of their 

current selves in the mirror, while the 

other half saw age-morphed versions. 

Next, all participants were asked to

allocate money toward a hypothetical 

retirement savings account. Participants who saw their 

older, future selves allocated over two times more money 

than those who saw their current images!

Ersner-Hershfield and Goldstein have also started 

testing a promising new web-based tool that increases 

the vividness of tradeoffs between current and future 

consumption by showing participants images of both 

their current and future (age-morphed) selves with

facial expressions that change in accordance with a

selected saving rate. When participants save more for 

retirement, their future faces become 

happier and their current faces

become sadder; when they save less, 

the current faces are happier and

future faces are sadder.

While this study examined asset 

accumulation decisions, the findings 

may translate to decumulation decisions as well: Strengthening retirees’ 

connection to their future selves could improve

the quality of the decisions they make about their

retirement income strategies—and that could have

far-reaching consequences.

For example, a tool could be developed to address

retirement income decisions by helping recent retirees 

“see” themselves at age 85 or 90, while also including

actual data about the happiness of people who chose

different types of income solutions. Research by Panis 

(2003) shows that retirees who use guaranteed income 

products to cover more of their expenditures are happier 

than those who do not. What’s more, these individuals 

maintain their level of happiness over time. A tool that 

presents this type of information in a vivid and easily

accessible way could improve the quality of retiree

decision-making.

Vividness: 

Making the Future Easier to Imagine Can Improve 

Retirement Outcomes

Encourage the use

of tools that let

retirees see vivid

images of how

financial decisions 

will affect their satisfaction and lifestyle.

People doubled 

their saving rates 

after seeing

age-adjusted

versions of their

future selves.
8

Based on an interview with Prof. Eric Johnson of Columbia University

I

n their landmark studies of risk-taking behavior, 

Daniel Kahneman and Amos Tversky (Kahneman and 

Tversky, 1979, and Tversky and Kahneman, 1992) established the now axiomatic investment truth that, for most 

of us, “losses loom larger than gains.” That is, investors 

experience the pain of a financial loss much more acutely than they feel the pleasure of the same size gain,

by a factor of about two to one. So on an emotional level,

the possibility of losing $50 is roughly equivalent to the

potential of winning more than $100.

More recently, in collaboration with AARP and

ACLI, Eric Johnson re-visited the Kahneman and Tversky

loss aversion principle to see how retirees’ reactions

to loss compared to the reaction of

the general population (AARP and 

ACLI, 2007).

Their findings: Retirees displayed 

what one might call “hyper loss aversion.” They were up to five times more 

loss averse than the average person. 

Nearly half of the retirees said that 

they would refuse a gamble with a 50% chance of winning $100 and a 50% chance of losing as little as $10, 

which suggests they weighted losses about 10 times 

more heavily than gains.

While the magnitude of loss aversion was far greater 

than Johnson predicted, he was not all that surprised 

that retirees were more concerned about loss than their 

younger brethren. What was surprising was their attitude toward products designed to minimize loss. While 

Johnson assumed that hyper loss aversion would translate into a preference for products 

with guaranteed lifetime income, his 

research revealed just the opposite. 

Retirees with hyper loss aversion actually responded less favorably to financial products with more 

protection and guarantees.

How to explain this apparent

disconnect? Johnson believes that 

giving up control of their money was 

viewed by the retirees as just another 

type of loss. Given their hyper loss aversion, retirees were 

reluctant to give up their ability to withdraw money 

whenever they wanted in exchange for future certainty 

about a steady income. They were also less willing to 

trade off this control for protection against a large drop 

in the stock market.

Johnson’s research offers new insights into the resistance that planners must overcome when designing new 

financial solutions for people near and in retirement. 

Because retirees show such strong aversion to loss and 

change, new products that offer guarantees and protection must be positioned as a way to gain control of

income and spending.

Hyper Loss Aversion: 

Retirees Show Extremely High Sensitivity to Loss,

But Shy Away From Guarantees That Require

Giving Up Control

Create

income solutions

that address loss

aversion and

re-position

guarantees as a

way to gain control 

over income

and spending.

Retirees are

up to five times 

more sensitive

to losses than

the general

population.
9

Based on an interview with Prof. David Laibson of Harvard University

While old age may bring more experience and wisdom, it also diminishes the quality of decision 

making. In his studies of older Americans, Laibson and 

his collaborators (Agarwal et al, 2009) report a significant decrease in “analytic cognitive functioning” as people age and an increase in the occurrence of dementia. 

After age 60, the prevalence of dementia roughly doubles 

every five years. By the time people reach their 80s, more 

than half will suffer from either dementia or other significant cognitive deficits.

The older adults that Laibson studied also showed 

marked declines in “numeracy”—the mathematical 

skills needed to cope with everyday life and to understand information in graphs, charts or 

tables. They also had great difficulty 

understanding simple measures of 

risk. When asked which numbers represented the biggest risk of getting a 

disease, 1 in 10, 1 in 100 or 1 in 1000, 

an astounding 29% of older adults 

(ages 65-94) could not answer the 

question correctly! (Peters, 2008a, 2008b) That’s a troubling finding given that working with numbers and

understanding risk is important to building a retirement 

income plan.

Laibson and his colleagues also discovered that older 

adults make more financial mistakes. When they examined 10 different types of credit behavior, they found that 

the quality of decisions started declining at around age 

53 and continued to diminish thereafter. The older 

group, for example, borrowed at higher interest rates 

and paid more fees than middle-aged individuals.

The implications of this research are significant to 

those creating retirement income solutions, because 

cognitive impairment may leave many older adults

ill-equipped to make good decisions about drawing 

down their assets and protecting their income during 

retirement.

Current regulations seek to protect workers from 

making bad choices during the accumulation years by 

specifying the types of investments to be offered and

encouraging the use of target date and asset allocation 

funds for QDIAs (qualified default investment alternatives). Unfortunately, no such regulations are in place 

to protect retirees in the decumulation years, when

they may be less capable of making sound financial

decisions.

Going forward, there should be such solutions,

including investment strategies and public policies that 

encourage people to make binding decisions earlier in 

life and prior to the onset of cognitive 

impairment. They must also protect 

older adults from unwisely draining 

their assets too quickly, either by offering financial products that guarantee payouts for life or by limiting the 

amount that may be withdrawn at a 

given point in time.

Examples of such pre-need planning are already

in place in parts of Europe, Latin America, and Asia. 

There, regulations require people to commit a portion of

their tax-advantaged retirement savings to guaranteed 

life income or systematic withdrawal products.

Cognitive Impairment:

Precipitous Declines in Cognition Can Set the Stage 

for Poor Decisions about Retirement Finances

After age 60,

the prevalence

of dementia 

roughly doubles 

every five

years.

Build solutions

that help people 

make key decisions 

about retirement 

income as early

as possible.
10

Based on an interview with Prof. George Loewenstein of Carnegie Mellon University

T he seminal work of Thaler (1985) on “mental

accounting” suggests that people often divide their 

money into separate mental “buckets”—for dining out 

or travel, for example—as a way to keep track of spending. One of the advantages of this mental accounting is 

that it helps people control their spending. But if applied 

to the extreme, it can result in poor outcomes.

Suppose, for example, that a retiree’s “dining out” 

bucket is depleted but his “travel” bucket is still full. 

Along comes his 10th wedding anniversary. While he 

would prefer to take his spouse out to celebrate, his mental dining bucket is depleted, so he opts to stay at home.

If that retiree had been less rigid about a bucketing strategy, he could have tapped a bit of the 

travel account for the celebration— 

and avoided the wrath of his spouse!

The process of mentally bucketing 

money in multiple accounts is often 

combined with earmarking the accounts for specific goals. (In the above 

example, buckets were designated

for “dining out” and “travel.”) While it seems like an inconsequential process, earmarking can have a dramatic

effect on retirement saving. Cheema and Soman (2009) 

found that earmarking savings in an envelope labeled 

with a picture of a couple’s children nearly doubled the 

savings rate of very low income parents.

The results by Cheema and Soman could explain why 

some US financial institutions offer clients the opportunity to label college savings accounts with a child’s name. 

Saving becomes easier because the money is earmarked 

for the education of a specific child.

Applying the bucketing and earmarking concept to 

the retirement decumulation phase, Loewenstein et al 

(2010) propose separate “pay the rent” and “spoil the 

grandkids” accounts for retirees who are concerned 

about investment losses and outliving their money. 

The pay-the-rent account can be

invested conservatively—for example, in products with guaranteed lifetime income—so there is no risk

of running out of money to pay the

rent and other essential expenses.

The discretionary spoil-the-grandkids account can be invested more 

aggressively to generate growth.

Not only does this system of multiple accounts provide peace of mind about covering the 

basics, it may also reduce the pain of paying for a vacation to Disneyland with the grandkids because it comes 

from an account earmarked for exactly that purpose.

Tangible Mental Accounts:

Bucketing Assets into Specific Subaccounts Can

Increase Retirees' Ability to Meet Their Financial Needs

Reinforce the

positive effects

of bucketing and

earmarking by

offering new account

structures that

mirror retirees’

needs and goals.

Earmarking savings

in an envelope with

a picture of their

children nearly

doubled the savings 

rate of parents.
11

Based on an interview with Prof. Brigitte Madrian of Harvard University

T o increase participation in their 401(k) plans, many 

companies now automatically enroll employees. 

Automatic enrollment has been shown to significantly 

boost participation rates. Madrian and Shea (2001)

examined data from a large US corporation that switched 

to an automatic enrollment policy from opt-in enrollment (where employees had to apply for participation).

In their seminal paper documenting the strong 

influence of inertia on 401(k) allocations, they reported 

that automatic enrollment increased participation from

49% to 86%. Further, most of these employees remained

enrolled, continuing to participate. In addition, 61%

retained the default contribution rate and investment 

allocation. Only 1% of workers who

entered the 401(k) program prior

to automatic enrollment selected the

default options.

However, Madrian also pointed

out that over time some employees 

recognized that the default allocation

was not their optimal strategy. At first, 

only 10% of employees chose an

allocation other than the default. But 

within a month, that number had grown to about 35% 

and within two years, to 50%.

Significantly, employees who stay with sub-optimal 

defaults appear to be those with the least assets. Madrian reported that more than 70% of individuals earning 

less than $20,000 per year stuck with the 401(k) default 

as compared to less than one third of those earning

between $70,000 and $79,000.

This has significant implications for the decumulation phase of retirement wealth management. Employees carried by inertia can change their contribution 

amounts and allocations if they decide the default

settings are not in their best interests. However, retirees 

who by default choose certain retirement income solutions cannot. Unlike accumulation decisions, some decumulation decisions are irreversible.

Consider the financial circumstances of low-income employees. 

Because many of these individuals 

depend on Social Security payments, 

the largest proportion of their retirement assets is illiquid. If they have

also defaulted into an irreversible 

lifetime income solution, they may find it difficult to 

draw on their retirement savings for a large unexpected 

expense like a medical emergency.

Before setting defaults, plan sponsors would be well 

advised to evaluate the potential impact of inertia on different types of retirees. For example, as explained above, 

it may be inappropriate to offer identical default

decumulation options to higher- and lower-income

employees. Furthermore, policymakers should make it 

easier for sponsors to customize decumulation options 

by eliminating non-discrimination rules that require all 

retirees—even those with unique needs—be presented 

with the same default payouts.

Inertia: 

Default Payout Options Can Handicap Retirees Who 

Are Not Motivated to Adopt a Personalized Strategy

Create

customized

defaults that 

nudge retirees 

toward optimal 

payout decisions. 61% of employees

enrolled automatically in a 401(k) 

plan retained

the default

contribution rate 

and investment

allocation.
12

Based on an interview with Prof. John Payne of Duke University

I

n their decision making, human beings do best 

when presented with apples-to-apples comparisons. 

Research shows that the ease with which a product’s

attributes can be evaluated and compared strongly

influences decisions (Hsee, 1996). However, by focusing 

on the easiest aspects of a decision, people do not always 

make optimal choices.

Currently, retirement income solutions are presented 

in such a way that retirees overweight certain attributes 

at the expense of others. For example, 69% of married 

women and 28% of married men opt for single life annuities rather than joint and survivor annuities (Johnson et 

al, 2003). Although some may have good reason to

do so, others may be responding to

the way the information they receive

is presented.

For lifetime income solutions, 

retirees are typically presented with 

materials highlighting the monthly 

payouts provided by each option. For 

many, the optimal choice is obvious: 

the highest monthly payout. Why 

would a retiree choose a product paying $3,000 per 

month when another product offers them $4,000 per 

month? A payout of $4,000 per month has the most

intuitive appeal. In other words, the dollar amount—the 

attribute that is easiest to evaluate—trumps all other attributes.

As a result, retirees may fail to recognize the implications of their decision on their spouse. Some guaranteed 

lifetime income solutions stop payouts after the purchaser’s death while others continue making payments 

to the deceased’s spouse. Products with higher spousal 

benefits tend to offer lower monthly payouts during the 

buyer’s lifetime. So making a choice based only on the 

initial monthly payouts—the most prominently featured 

product attribute—can have serious consequences

for the surviving spouse.

Payne suggests that a new language is needed to help retirees

make better-informed decisions. This 

language would make a product’s 

attributes more meaningful and 

would facilitate an apples-to-apples 

comparison between offerings. Payne 

uses the example of energy usage

labels on appliances, where the “Jargonese” kWh is given context by providing a scale.

Consumers can evaluate a potential purchase by seeing 

where its performance lies along the scale—closer to the 

end that represents less efficiency or the end that

represents higher efficiency (Cox and Payne, 2005).

Payne’s new financial language would avoid

Jargonese and encourage presentation methods that 

provide context and help retirees compare products. For 

example, the implications for retirees making a choice 

between single life annuities and joint and survivor 

annuities would be clearly spelled out, with the monthly 

spousal payouts in the event of the buyer’s death listed 

prominently. This way, it would be easy for the retiree to 

see which products fail to provide for the surviving 

spouse. Payne argues that this approach would improve 

the quality of retirees’ financial decision making.

Evaluability: 

When Assessing Their Options, Retirees Gravitate 

Toward Those That Are Easiest to Understand

Use a new language

to make it easy

for retirees to see

the implications of 

their decisions and 

identify the most

appropriate financial 

69% of married solution.

women and 28% 

of married men 

opt for single life 

annuities rather 

than joint and

survivor annuities.
13

Based on an interview with Dr. Alessandro Previtero of UCLA

Almost half a century ago, Yaari (1965) developed

a theoretical model suggesting retirees should

annuitize all of their wealth. Yaari’s provocative theory

was somewhat limited as it did not consider real

world complexities such as paying out-of-pocket medical expenses. But even after factoring in additional

complexities, many academics still feel retirees should

annuitize a significant portion of their wealth.

Though many theoretical models point to the

benefits of guaranteed lifetime income, there is very

little evidence that retirees favor annuities. For example, 

Schaus (2005) reports that from 1999 to 2005, only

2% to 6% of retirees elected guaranteed lifetime income 

when it was available in their 401(k) 

plans. The dramatic discrepancy between theoretical predictions and the 

actual behavior of retirees has been 

dubbed the “Annuity Puzzle.”

Is there really an Annuity Puzzle? 

Put differently, do most retirees really 

“choose” not to purchase lifetime

income? Or do retirees pick lifetime income solutions 

when they must make an active choice about retirement 

payouts and do not have the option of remaining with 

the status quo or a default?

Recently, Previtero (2010) identified a unique dataset 

of more than 100 defined benefit plans, covering more 

than 100,000 retirees. Each of these individuals had to 

actively choose between guaranteed lifetime income 

and a lump sum. Because there was no default, they had 

to decide themselves how to withdraw funds.

Previtero reports that 49% of retirees making an

active choice between guaranteed lifetime income and

a lump sum actually picked the lifetime income option 

(see also related work by Choi at el, 2009). This result 

flies in the face of the so-called Annuity Puzzle and

the widespread perception that retirees do not like

lifetime income solutions.

When making this type of active decision, context can 

be highly influential. In subsequent research, Previtero 

compared payout decisions in defined benefit plans with 

those in cash balance plans.

Defined benefit plan payout options are typically 

communicated in terms of monthly income, and viewed 

through this lens, guaranteed income products tend to 

look attractive. In contrast, cash balance plans are

often communicated in terms of account balances

or lump sums, which is less favorable 

for guaranteed income products. 

Not surprisingly, Previtero found that

retirees in defined benefit plans were 

17% more likely to choose the guaranteed lifetime income than their peers 

in cash balance plans.

The so-called Annuity Puzzle may 

be no more than circumstantial. Active decision-making 

and a plan context which highlights monthly income 

could increase the attractiveness and adoption of retirement income solutions.

Active Decision-Making: 

When Asked to Choose, Many Retirees Pick

Guaranteed Lifetime Income Over a Lump Sum

Make retirement 

income solutions 

available in 401(k) 

plans and nudge 

retirees to

actively choose.

49% of those

actively choosing 

selected guaranteed lifetime

income over

a lump sum.
14

Based on an Interview with Prof. Eldar Shafir of Princeton University

Most people fail to gauge the impact of inflation

on their nest-egg. They are inclined to think

in nominal dollars—in terms of day-to-day prices.

Consider real estate. Many individuals celebrate when 

they sell their houses at a higher price than they paid. 

But adjusted for inflation, these homeowners may have 

actually lost money.

Inflation’s corrosive effect has significant implications for a person’s standard of living, not to mention 

quality of life. The purchasing power of a dollar can vary 

greatly over time. For example, the medical services

for the elderly that cost just one dollar in 1983 now have 

a price tag of more than four dollars (Schondelmeyer et 

al, 2009).

So when it comes to retirement or any long-term

savings goal, the impact of inflation is a critical

consideration. The cumulative effect of compounding—

that even low rates of inflation can multiply exponentially—is frequently overlooked. An 

inflation rate of just 3% compounded 

over 10 years can erode purchasing 

power by 25%. Compounded over 20 

years, a 3% inflation rate can reduce 

purchasing power by nearly 50%.

Older adults, who experience

declines in numerical ability, may be 

particularly prone to neglecting or

underestimating the impact of inflation. Retirees can fail 

to recognize the extent to which the purchasing power of 

future payouts designated in nominal dollars will be

diminished, leaving them with insufficient funds to 

maintain their lifestyle or pay for essential medical services. With the average length of retirement at approximately 20 years, this possibility is quite likely.

Shafir examined the psychological basis of the

money illusion, which refers to the outsized influence

of nominal dollars on decision-making. He found that

an individual’s preference for an

inflation-indexed or a non-indexed

contract could be influenced by the 

way the risk was presented (Shafir et 

al, 1997).

When the possibility of losing 

“real” dollars (that is, dollars adjusted 

for inflation) was prominently featured, people tended to favor an inflation-indexed

contract. However, when the possibility of losing nominal dollars was emphasized, a non-indexed contract

was preferred. Interestingly, when contract information

was presented in a neutral way, an individual’s preferences were similar to those when a possible loss of

nominal dollars was presented. These findings suggest 

that people naturally think about risk in terms of

nominal dollars. It also indicates that if the risk to real 

dollars is demonstrated to them, the money illusion can 

be minimized.

It should be a standing policy to offer financial

products that provide some protection from inflation. 

Such products may not intuitively appeal to older adults 

or retirees, but Shafir’s work suggests their benefits can 

be presented effectively.

Money Illusion:

People Vastly Underestimate the Impact of

Inflation on their Cost of Living

Incorporate

some inflation

protection

into retirement

income

solutions.

Medical services 

for the elderly 

that cost just

one dollar

 in 1983 cost 

more than four 

dollars today.
15

Based on an interview with Prof. Suzanne Shu of UCLA

I

magine that two people receive a windfall in the form 

of a chocolate cake. Now suppose a third of the cake 

lands on one person’s plate while the other two-thirds 

lands on the plate of a neighbor. What happens next?

Economic theory predicts the one who receives less 

cake will happily eat it, grateful for the unexpected

windfall. However, Thaler (1988) has reported the exact 

opposite in dozens of studies. Many people choose to 

throw away the cake because they consider it unfair that 

someone else got more than they did. They actually want 

no one to have cake, unless they get their fair share.

Shu contends that fairness considerations impact

important real-world decisions such as our choice

of retirement income solutions. For

example, without receiving the right

information, retirees might mistakenly 

perceive that lifetime income providers unfairly profit from early deaths. To 

combat this perceived unfairness, one 

could educate retirees about mortality 

credits and explain that, in fact, any 

early deaths subsidize the individuals 

who live longer. However, a more

effective way to address this, Shu suggests, is to redesign 

the menu of retirement income solutions in a way that 

promotes their perceived fairness.

For example, consider the case of tontines. Tontines 

are pooled assets that let a group of people, say all firefighters retiring in 2010, self-insure against longevity. 

They all contribute to the pool and receive interest and 

dividends proportional to their contribution. As time 

passes and some retirees die, only those who are still 

alive share the interest and dividend payments.

Now compare conventional annuities and tontines

in terms of perceived fairness. In the 

case of annuities, an uninformed

retiree might believe that an early 

death benefits the financial institution. However, in the case of tontines, 

an early death benefits other firefighters, which is likely to be perceived

as far more fair.

Interestingly, Shu tells us that in 1905, there were

9 million tontine policies outstanding among a population of 18 million households (Ransom and Sutch, 1987). 

Tontines, however, had their own shortcomings.

Tontines were outlawed in the early 1900s because of 

corruption within the industry. Traditional tontines

also had the risk that one community member would kill

another to profit from their death—a problem that could 

be solved with anonymous membership in the

tontine pool.

To summarize, careful consideration should be given 

to how we can integrate the concept of fairness into the 

design and presentation of retirement income solutions.

Fairness: 

The Attractiveness of a Retirement Income Solution 

Depends on its Perceived Fairness

Design and

present retirement 

income solutions

in ways that

maximize perceived 

fairness.

In some

circumstances, the 

majority of people 

reject a financial 

windfall they

perceive as unfair 

and choose to walk 

away with nothing.
16

By Prof. Shlomo Benartzi of UCLA

I

n this report, we have outlined 10 behavioral insights 

that should be taken into account when creating and 

evaluating a retirement income strategy. These insights 

can add a human dimension to the design of a retirement system, helping to prevent “behavioral blind spots” 

that could dramatically compromise it.

At a time when individuals are asked to assume more 

responsibility for their retirement savings, we believe

the human element is a critical determinative factor. 

For retirees, it can mean the difference between living

in financial security and running out of money.

To facilitate the application of our 10 behavioral

insights, we have created a behavioral checklist on

the following page that can be used by policy makers to 

evaluate how different policy proposals compare in

terms of their impact on employee/retiree behavior.

The checklist is in alphabetical order by last name of 

the researcher.

 Similar checklists could be created for plan sponsors and financial advisors, tailored to their specific 

needs. 

We sincerely hope that this checklist and our behavioral insights are helpful to policy makers as they

evaluate proposals. Please do not hesitate to contact us

if you have questions or would like us to conduct

follow-up research.

For more information, contact Cathy Smith

at Allianz Global Investors:

cathy.smith@allianzinvestors.com

Summary:

A Behavioral Finance Checklist for Retirement

Income Strategies

See Behavioral Finance Checklist on following page 
17

A Behavioral Finance Checklist for Retirement 

Income Strategies

Checklist Inspired by the Work of Professor...

☐ Is the retirement income strategy framed in terms of the 

monthly income a retiree will receive? Brown on Framing

☐ Are the implications of today’s financial decisions vividly 

presented so employees see how their lives will be affected? Goldstein on Vividness

☐ Is the strategy appropriate for retirees who are

hyper-sensitive to losses? Johnson on Hyper Loss Aversion

☐

Can retirement income decisions be made before the onset

of cognitive impairment? Are the number and complexity of 

choices manageable for older individuals?

Laibson on Cognitive Impairment 2

☐

Does the retirement income strategy offer multiple accounts

to facilitate different goals, such as paying the rent or spending 

money on vacations?

Loewenstein on Tangible Mental

Accounts

☐ Are employees, carried by inertia, assigned to a customized 

default that is appropriate to their situation? Madrian on Inertia

☐ Does the language used to describe the retirement income 

strategy make it easy to evaluate its features? Payne on Evaluability

☐ Does it encourage individuals to make active choices? Previtero on Active Decision-Making

☐ Does the retirement income strategy provide some

inflation protection? Shafir on the Money Illusion

☐ Will it be perceived as fair by most retirees? Shu on Fairness

2

 See also work by Iyengar et al (2004) on choice overload.
18

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20

Biographical Information for Academics

Shlomo Benartzi

UCLA Anderson School of Management, Professor and Co-Chair 

of the Behavioral Decision-Making Group

Co-founder of the Behavioral Finance Forum

http://www.anderson.ucla.edu/x1545.xml

Jeffrey Brown 

University of Illinois, William G. Karnes Professor in the 

Department of Finance

Director of Center for Business & Public Policy at University of 

Illinois College of Business

Associate Director of the NBER Retirement Research Center

http://www.business.illinois.edu/jbrown/

Daniel G. Goldstein 

Yahoo Research, Research Scientist

London Business School, Assistant Professor of Marketing 

http://www.dangoldstein.com/

http://www.london.edu/facultyandresearch/faculty/search.

do?uid=dgoldstein

Eric Johnson

Columbia University, Norman Eig Professor of Business 

Director of the Columbia Center for Excellence in E-Business

Co-Director of the Center for Decision Sciences at

Columbia University

http://www0.gsb.columbia.edu/whoswho/bio.cfm?ID=55614

David Laibson

Harvard University, Robert I. Goldman Professor of Economics

http://www.economics.harvard.edu/faculty/laibson

George Loewenstein

Carnegie Mellon University, Herbert A. Simon Chair of 

Economics and Psychology

Head of Behavioral Economics, Center for Health Incentives, 

University of Pennsylvania.

http://sds.hss.cmu.edu/src/faculty/loewenstein.php

Brigitte Madrian

Harvard University's Kennedy School of Government, Professor 

of Public Policy and Corporate Management in the Aetna Chair 

Director Social Science Program at the Radcliffe Institute for 

Advanced Studies

http://www.hks.harvard.edu/fs/bmadria/

John Payne

Duke University, The Fuqua School of Business, Joseph J. Ruvane, 

Jr. Professor of Business Administration

Director, Center for Decision Studies, Fuqua School of Business

http://faculty.fuqua.duke.edu/~jpayne/bio/

Alessandro Previtero

UCLA Anderson School of Management, Postdoctoral Fellow

http://personal.anderson.ucla.edu/alessandro.previtero

/CV.html

Eldar Shafir

Princeton University, William Stewart Tod Professor of

Psychology and Public Affairs

http://weblamp.princeton.edu/~psych/psychology/research/

shafir/index.php

Suzanne Shu

UCLA Anderson School of Management, Assistant Professor

http://www.anderson.ucla.edu/x19555.xml

Thanks also to the following writers who contributed to

this response: Aileen Heinberg, Eve B. Rose, and Polly Walker. 

Below, in alphabetical order, are the academics interviewed for this report, along with 

academic information and links to their on-line CVs.