An Equilibrium Theory of Retirement Plan Design

Abstract

We develop an equilibrium theory of employer-sponsored retirement plan design using a behavioral contract theory approach. The operation of the labor market results in retirement plans that generally cater to, rather than correct, workers' mistakes. Our theory provides novel explanations for a range of facts about retirement plan design, including the use of employer matching contributions that result in cross-subsidization of rational workers by myopic workers, the use of default employee contribution rates in automatic enrollment plans that lower, rather than raise, workers' savings, and the inclusion of high-fee funds among plans' investment options. These equilibrium outcomes call into question the practice of depending on employers to design plans to counteract the mistakes of workers.