Building Up, Spending Down: Financial Literacy, Retirement Savings Management, and Decumulation

39 Pages Posted: 8 Dec 2009

See all articles by Angela Hung

Angela Hung

RAND Corporation - Labor and Population

Erik Meijer

University of Southern California; RAND Corporation

Kata Mihaly

RAND Corporation

Joanne Yoong

RAND Corporation

Date Written: September 8, 2009

Abstract

As employer-provided pension plans have largely shifted from defined benefit (DB) to defined contribution (DC) pension plans, responsibility for plan investments and the accompanying risks have also shifted from the provider to the employee. Employees have to decide how much to contribute to their plans, how to allocate their retirement accounts between various investment options, and how they will spend down or decumulate their retirement funds during retirement. This raises the question of whether most employees are well-equipped to make such decisions. Empirical research suggests that large segments of the United States population do not feel financially well-prepared for retirement, and suboptimal financial decisions have been attributed to lack of financial literacy. The authors investigate this hypothesis by constructing multidimensional financial literacy indices using modern psychometric methods. They assess the relationships between a wide array of DC contribution, investment and (planned) decumulation behaviors on the one hand and these financial literacy indices on the other hand, controlling for other socio-economic and demographic determinants. Their indices measure financial literacy well, but the dimensions that they represent (objective and self-assessed financial literacy, broken down by topics) are very highly correlated, so that the multidimensional nature does not offer much additional explanatory power over a simpler one-dimensional index. Consistent with earlier empirical findings, they find large fractions of “investment mistakes”. Surprisingly, however, the relationships between investment behavior and financial literacy are often weak and nonsignificant. They do find that financial literacy is related to retirement planning, but not to retirement preparedness.

Suggested Citation

Hung, Angela and Meijer, Erik and Mihaly, Kata and Yoong, Joanne, Building Up, Spending Down: Financial Literacy, Retirement Savings Management, and Decumulation (September 8, 2009). RAND Working Paper Series WR- 712. Available at SSRN: https://ssrn.com/abstract=1520203 or http://dx.doi.org/10.2139/ssrn.1520203

Angela Hung (Contact Author)

RAND Corporation - Labor and Population ( email )

United States

Erik Meijer

University of Southern California ( email )

635 Downey Way
Los Angeles, CA 90089-3332
United States

RAND Corporation ( email )

1776 Main Street
P.O. Box 2138
Santa Monica, CA 90407-2138
United States

Kata Mihaly

RAND Corporation ( email )

1776 Main Street
P.O. Box 2138
Santa Monica, CA 90407-2138
United States

Joanne Yoong

RAND Corporation ( email )

1200 South Hayes St
Arlington, VA 22202
United States

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