[Joseph_E._Stiglitz,_Carl_E._Walsh]_Economics(Bookos.org) (1)

A Behavioral Perspective
on Saving
In Chapter 5, we introduced some of the new insights on how people behave that have
come from research in psychology and behavioral economics. Many of these insights
have proven particularly useful in understanding household saving decisions.
Earlier we discussed the importance of the desire to smooth consumption over
a person’s lifetime in influencing saving. A basic implication of the economist’s standard
model of saving is that people should save during their peak earning years so
that when they retire, and their income drops, they will have accumulated enough
to ensure that their consumption does not fall. Yet there is a great deal of evidence
that when people retire, their income and their consumption drops. They have not
saved enough for their retirement and so are forced to scale back the amount they
consume. Behavioral economics offers some interesting perspectives that help
explain why individuals undersave.
One reason may be that people simply lack the self-control necessary to postpone
consumption. The standard model of choice that economists employ assumes
people can rationally balance the benefits of consuming today versus the advantages
of saving so that more consumption can be enjoyed in the future. But people
often find it very difficult to make sacrifices in the present, even if they recognize
the benefits to be gained in the future. Smoking provides a good example. There is
a saying that the best time to quit smoking is tomorrow—the smoker is always
tempted to have that cigarette today and promise (himself) that tomorrow will be
different and he will quit. Of course, when tomorrow comes around, he falls into
the same pattern. The result is that many people never are able to quit smoking. The
self-control assumed by the standard model of rational choice appears to be in
short supply.
Lack of self-control would make reducing current consumption quite difficult,
for the benefits of such self-denial may not be seen for ten or twenty years. It may
also explain why most saving done by American households takes the form of
forced savings, occurring automatically without the need for an explicit decision
every month. There are three common forms of forced saving. First, many workers
participate in pension plans through their place of employment. Each month,
the employer sets aside funds for the worker’s pension, to which a certain amount
deducted from the worker’s paycheck may also be added. This is a form of saving
for the worker. Second, Americans who own their own homes typically buy those
homes by borrowing (“taking out a mortgage”), and they make a mortgage
payment each month. Part of this payment represents the interest on the amount
that was borrowed; the rest goes toward repaying the principal. This repayment
builds the family’s equity in their home, another common form of saving. A final
example of forced saving is provided by the automatic withholding of income tax
from paychecks for salaried jobs. Many people have too much withheld each pay
period so that when they file their tax return in April of each year, they are owed
a refund from the government. These refunds are often used to purchase a
big-ticket item that the taxpayer might otherwise not have had the willpower to
save up for.
202 ∂ CHAPTER 9 CAPITAL MARKETS