Nudge: Improving Decisions About Health, Wealth, and Happiness

In Chapter 10, Thaler and Sunstein focus on the Swedish retirement system. They write that the details of this case “offer some larger lessons about the problems with maximizing choices, the possibility of weakening the effects of defaults, and the power of inertia” (198). At the outset, they reiterate the importance of defined contribution plans against traditional social security systems because of demographic changes. People are living longer lives and having fewer children, both of which shrink the relative size of the workforce.

Thaler and Sunstein write that the Swedish system offers an array of choices and encourages participants to choose for themselves. Thaler and Sunstein list five default option scenarios: the default is the only option, the default is discouraged, the default is encouraged, the default is chosen automatically, or choice is required. The Swedish choice architects chose to include a default but to discourage it, that is, they encouraged people to choose for themselves. Providing a default is a strong nudge toward the default. However, actively advertising that people should not accept the default but should choose for themselves is also a strong nudge. In this case, the advertising proved to be a stronger nudge than the choice of a default. They call the people who did not accept the default “active choosers” and those who did “delegators.” about two-thirds of the population decided to be active choosers.

Thaler and Sunstein are curious whether the active choosers made good choices. Different funds were allowed to advertise, and those which advertised more received more active choosers. Unfortunately, this steered people “into portfolios with lower expected returns and higher risk,” so the active choosers, in general, did not fare well (209). Over the years, advertising for the funds disappeared because the Swedes had chosen their plans. This led to public disengagement with the funds, and people settled into an acceptance of the accounts they had. In other words, they were subject to inertia. Some delegators eventually became active choosers but only a small fraction of active choosers became delegators.

At the end of the chapter, Thaler and Sunstein draw lessons. First, they note the significance of the inertia after the end of the period of advertising. “Even a major scandal involving a fund manager,” they write, “did not set off alarm bells” (215). Among other things, they also note that the Swedish system may have too strongly discouraged the default. There were also too many potential plans to choose from. They note that people fell into “auto-pilot,” so the original nudges in the choice architecture held up for a long time. “In outer space,” Thaler and Sunstein write, “an object that has been nudged will keep going until it has been nudged again. Swedish retirement appears to resemble such objects” (217).

Thaler and Sunstein move on to the issue of individual and consumer debt. They worry that people have a “more basic” problem than saving for retirement and that this is simply living within their means, i.e., spending less than they make (218). Because it is easier than ever to borrow money, it is harder than ever to manage self-control problems. Thaler and Sunstein state that Americans have over a trillion dollars in credit card debt and that debt of this kind is rising all over the globe. Some people have mortgages that leave them underwater, that is, they owe more on their home than it is worth. They write that their discussion of mortgages is designed to help people choose better and their discussion of credit cards to help people use better.

They note several things that potential homebuyers should be careful about including changing interest rates, shrouded fees, and conflicts of interest from brokers and real estate agents. For instance, many real estate agents only get paid if the house sells, so they are incentivized to push people to buy homes. They include findings from economist Susan Woodward that show that, on average, African-American, Latino, and less educated adults pay more for their loans than others. Thaler and Sunstein promote EZ Mortgage, an idea that uses smart disclosure and streamlined options for unsophisticated shoppers. They also recommend the creation of a choice engine called “Mortgage File,” “to make all the details available in a structured electronic format, continually updated in an online database” (227).

Thaler and Sunstein then turn their attention to credit cards. They note that the average American user in 2018 had four separate credit cards, and as of 2019 had approximately $6,000 in accumulated debt. Studies have shown that people are more likely to spend more money on goods with a credit card than with cash. In 2009 the Credit Card Accountability Responsibility and Disclosure Act (CARD) put in place various regulations to instigate the disclosure of card policies to protect consumers. Just as they proposed the Mortgage File, Thaler and Sunstein here propose a database of fees and rules where the various credit card agencies are required to post their information. They recommend that people pay down the card with the highest interest rate the fastest. They also recommend setting up auto drafts for credit card payments so that users do not accrue late fees. They then encourage people to use the app Tally, which is designed to help people manage their bills and credit card debt. They note that “one of the best ways to make it easy is to make it automatic” and hope that users who run a balance on their credit cards will take this advice to heart.

The final chapter of Part 3 is about insurance. Thaler and Sunstein note a general principle at its outset: “Economists agree about the right way to think about insurance. The most important principle is to get protection against rare but significant mishaps that can lead to financial ruin” (236). In other words, it’s important to insure a potential flood but not a toaster. This depends on one’s financial situation. There’s not much that a billionaire needs to insure.

Thaler and Sunstein are adamant about one rule of thumb: “when purchasing insurance, choose the largest deductible available” (238). They state that many people do not do this, and they call that “deductible aversion” (238). They recommend that people self-insure on small risks instead of taking out extended warranties. They note that people choosing their health insurance plans have done a bad job in many instances. People choose plans that are demonstrably worse than others according to the “dominance principle” (243), which states that if one option is better than another on at least one metric, and no worse on any other metric, then it is a superior option. Nevertheless, many people chose plans that violate this principle. “The poor choices all had something in common,” they write, “low deductibles” (243). One study shows that across various firms, over $500 a year was saved on average by individuals who chose the high deductible plans.

Since deductibles can be high for families, Thaler and Sunstein believe that risk aversion may explain why more people do not take high deductible plans, even though they offer less risk than other plans. Then they discuss behavioral hazards, noting that people sometimes cut back on medical expenses by eliminating important drugs from their regimen. When patients cut back on important drugs, they can be at higher risk of death, which clearly outweighs the money they may save. Thaler and Sunstein note that the data shows that those patients who are at the highest risk are often the most likely to cut back on medications. To help with these sorts of problems, Thaler and Sunstein strongly recommend mental accounting and their own “On My Own-HSA” program.