In a speech last May, Andy Haldane, Chief Economist for the Bank of England, admitted that he was unable to understand pensions because they were so complicated. Moreover, he suggested countless experts and financial advisors have “no clue either”. Ordinary workers, he concluded, have no chance of making informed decisions about retirement and the system needs to be simplified. Pensions are but one area, and perhaps one of the easier areas, where people are asked to make complex decisions prior to and throughout retirement. Health care, social care and insurance for both are also complex decisions by virtue of being difficult to understand and/or by the large number alternatives available.
Interestingly, this complex decision making occurs in a public policy environment where greater consumer choice is frequently promoted. Indeed, the NHS motto is “Your health, your choice”! The rationale for greater choice, we are assured, is that it should generate more competition among service providers and competition will, in turn, lead to lower prices and higher quality services. Of course, the more choice is better strategy assumes that consumers have adequate information about their choices and the mental capacity to sift through the alternatives. What if these assumptions are wrong?
In a fascinating chapter from the forthcoming “Handbook of the Economics of Population Aging,” Michael Keane and Susan Thorp explore the empirical evidence about complex decision making and the role of cognitive decline in ageing in three important areas: health care, health insurance and retirement planning with an eye towards the argument that “more choice is always good”. If the majority of people have difficulty making rational decisions in these three areas, all of which are crucial for the well-being of the older population, this is a serious source of concern with respect to population ageing.
Keane and Thorp assert that, when making health- and pension-related decisions, there is evidence that consumers have misperceptions about certain critical facts. These include everything from the structure of the plans they are choosing among to what government entitlement programs cover, as well as a lack of understanding about basic underlying technical assumptions such as longevity, risk and investment returns. Particularly interesting is the finding that people may say that they prefer certain attributes while their actual choices (“revealed preferences”) do not support these statements. Taken together, these deficiencies undermine a key tenet of the standard “choice is good” argument: good information is needed to make optimal choices.
In health care, for example, decisions about what provider to use or what treatment options to undertake are both complicated and have important consequences to individuals. Information about quality and effectiveness are needed to make these decisions yet these attributes are difficult to measure. Measures meaningful to experts may be hard to interpret by consumers. Frequently, consumers resort to measures they do understand like personal interactions.
In retirement planning, at a minimum, consumers need basic numeracy and financial literacy. Those in the best position to make good decisions will also understand how to assess probability and risk when purchasing life, health or long-term care insurance. There is considerable evidence that people of all ages have difficulties in these areas. The decline in cognition at older ages makes managing retirement increasingly hard for the very elderly. The assumption that the Chief Economist at the Bank of England much less the rest of us “ordinary” people can make optimal or even near optimal choices regarding things as complex as pension plans and annuities, much less all manner of insurance offerings, appears problematic.
How then can we help consumers make better choices? What does the research say about whether poor retirement planning is a problem that can be solved by simplified products, improved disclosure, education, advice or something else?
First, there is some evidence that simplified disclosures do not make for better decisions. Rather than better decisions, there is some evidence that consumers simply make faster decisions. Second, although there is a correlation between knowledge and financial capability with improved wealth management and planning outcomes, general education in financial literacy has little effect. Advice seeking is observed more frequently in better off consumers. Unbiased computer-generated choice guidance shows promise but the uptake is still slow and needs to be made more attractive to less sophisticated consumers.
Finally, optimism exists where regulators aim to simplify choices by standardizing products or setting defaults as Haldane suggested. Here, the evidence shows that providers have changed for the better what they offer. Ultimately, this improves consumer outcomes.
References
Keane, M.P. and S. Thorp (forthcoming) “Complex Decision Making: The Roles of Cognitive Limitations, Cognitive Decline and Ageing” in The Handbook of Population Ageing, Elsevier, J. Piggott and A. Woodland (eds.).
About the Author
Dr Laurel Hixon brings over two decades of health policy and applied health care research experience to OIPA. She has had academic research appointments in both the U.S. and Australia. She has written extensively about health and long-term care financing and reform
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Comments Welcome: We welcome your comments on this or any of the Institute's blog posts. Please feel free to email comments to be posted on your behalf to administrator@ageing.ox.ac.uk or use the Disqus facility linked below.
