Harvard logo ACTIVE VS. PASSIVE DECISIONS AND CROWD-OUT IN RETIREMENT SAVINGS ACCOUNTS  University of Copenhagen logo
Raj Chetty
Harvard Univ.
  John N. Friedman
Harvard Univ.
  Soren Leth-Petersen
Univ. of Copenhagen
  Torben Heien Nielsen
Univ. of Copenhagen
  Tore Olsen
CAM and NBER

  

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The United States spends more than $100 billion per year on tax subsidies for retirement savings accounts such as 401(k)s and IRAs. Do these subsidies encourage families to save more, or do they induce them to shift money they would have saved anyway into tax-advantaged retirement accounts with no net increase in savings? While many studies have investigated this question, the answers remain uncertain because of inadequate data in the U.S. We turn to data from Denmark, where we obtain 41 million observations on savings, for new evidence.

 
 

When individuals in the top income tax bracket received a smaller tax subsidy for retirement savings, they started saving less in retirement accounts...



... but the same individuals increased the amount they were saving outside retirement accounts by almost exactly the same amount, leaving total savings essentially unchanged. We estimate that each $1 of government expenditure on the subsidy raised total savings by 1 cent.

If subsidies have little impact on retirement saving, are other policies more effective? We find that "nudges" such as automatic contributions by employers have much larger effects on savings. When individuals switch to firms with higher automatic employer pension contributions, their savings rates increase significantly. Most individuals are passive savers who do not pay attention to employer pension contributions and thus do not offset such contributions by saving less in other accounts.
  


These findings call into question whether tax subsidies are the most effective policy to increase retirement savings. Automatic enrollment or default policies that nudge individuals to save more could have larger impacts at lower fiscal cost.

 

 

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