Consumer Finance Across the
Lifespan
Eric J. Johnson
Marketing Division, the Center for Decision Sciences
and the Consumer Financial Protection Bureau
Supported by NSF Grant SES-0352062, National Institute for Aging
with support from the Social Security Administration
The Russell Sage and the Alfred P. Sloan Foundation
The National Endowment for Financial Education.
FRB Atlanta July 23, 2014
A Grey Tsunami
● The
over 65 population of the world will
double by 2035
● One
in five Americans will be over 65 by
2030.
Why does this
matter?
…………………………………………………………………………………………………………………………………………
Source: 2011 Survey of Income and Program Participation
…………………………………………………………………………………………………………………………………………
…………………………………………………………………………………………………………………………………………
Consumers’ decisions to spend and save.
●Every
day we make decisions that will
affect our future financial well beings.
–In economics, the workhorse model for
consumer financial decisions is the
permanent income/life cycle savings
hypothesis.
–What can consumer research and
psychology add to this?
…………………………………………………………………………………………………………………………………………
The Permanent Income /
Life Cycle Savings Hypothesis
● People
save and spend
based on estimated
future income
● Goal is to ‘bounce the
last check you write’
● Involves:
– Exponential Discounting
– Expectation of future
income and spending
– Usually Solved by
Backward Induction
…………………………………………………………………………………………………………………………………………
In contrast…..
…………………………………………………………………………………………………………………………………………
…………………………………………………………………………………………………………………………………………
Source: Salthouse 2010
JUNE 10, 2011, 2:52 PM ET
Declining Cognitive
Ability
Presents Challenges
to
Attracted Popular
and
Academic
Interest.
Boomer Finances
As Baby Boomers age, policy makers and economists may be served by looking at the condition of not just their nest
eggs, but the health of their brains.
So says economist David Laibson, of Harvard University in a
speech called “The Age of Reason.” Prof. Laibson spoke at
Morningstar’s annual conference in Chicago before hundreds of
financial advisers and asset managers — industries grappling with
the inevitable shift of assets from workers accumulating money to
those trying to live on it as they grow older.
JUNE 10, 2011, 2:52 PM ET
Declining Cognitive Ability Presents Challenges to
Boomer Finances
Prof. Laibson opened with an image of the famously wealthy
Brooke Astor. “One of our most remarkable individuals ended up in
this terrible state” because of a lack of cognitive abilities, he said.
As Baby Boomers age, policy makers and
eggs, but the health of their brains.
● Targets
Getty Images
About 35% of wealth is controlled by those 65 or older, Prof.
The late Brooke Astor is an example of the dangers of
declining
cognitive
function.
economists
may
by will
looking
the condition
of not just
their
nest
Laibson
said,be
andserved
that number
grow asat
boomers
age. The total
balance sheet of U.S. households is $53 trillion, he says. As about
$18 trillion hang in the balance among seniors, the question is, what will be done to help aging people from becoming
another Brooke Astor?
for fraud
So says economist David Laibson, of Harvard University in a
intelligence
— that is intelligence displayed in things like memory tests — decreases dramatically with age. In
speech called “The Age of Reason.” Prof. Laibson Fluid
spoke
at
fact, “it’s all downhill from age 20” Prof. Laibson said. “What about the 80-year-olds? It’s the 80-years-olds who have
Morningstar’s annual conference in Chicago before hundreds of
the million dollar IRAs. Not the 20-year-olds.”
financial advisers and asset managers — industries grappling with
But clearly, there’s a lot more to life than fluid intelligence. Crystallized intelligence — memory, wisdom and so on —
the inevitable shift of assets from workers accumulating money to
does increase over time, but less so, on average, in senior years.
those trying to live on it as they grow older.
● Concern
from industry
– Are customers capable of making informed decisions?
– Are they liable for detecting decreased capability?
All told, the point at which we make the best financial choices is 53 years old, according to his data. “Of course there
are exceptions,” Prof. Laibson said. “I would take Warren Buffett at 81 over most 50-year-olds.” (But he also
famously
wealthy
acknowledges he would take a fiftysomething Buffett over one in his 80s.)
Prof. Laibson opened with an image of the
Brooke Astor. “One of our most remarkable individuals ended up in
Many seniors end up in a state called cognitive impairment without dementia that isn’t quite dementia, but still (as the
this terrible state” because of a lack of cognitive abilities,
he said.
● Obvious
implication for public policy and
decumulation decisions
name implies) a deterioration of memory. In spite of this, people still may make financial decisions on their own. Prof.
Getty Images
Labison estimated that 16% of those 71-79 years old, 29.2% of 80-89 year olds, some 38.8% of those over 90 years
older,
Prof.
The late Brooke Astor is an example of the dangers of
old are in such a state.
About 35% of wealth is controlled by those 65 or
declining cognitive function.
Laibson said, and that number will grow as boomers age. The total
Those people are at great risk for financial abuse. Some 17% of professional care staff report committing psychological
balance sheet of U.S. households is $53 trillion, heabuse
says.
andAs
10%about
physical abuse, Prof. Laibson said.
$18 trillion hang in the balance among seniors, the question is, what will be done to help aging people from becoming
Those over the age of 50 end up paying higher interest rates, even though on average they had better FICO scores and
…………………………………………………………………………………………………………………………………………
another Brooke Astor?
lower default rates, Prof. Laibson said. “Middle aged people get better deals,” he said. In terms of risk-adjusted returns
● Independent
of Dementia
on investments, the young do relatively well, but the “old are doing absolutely abysmal,” paying more in fees and
Fluid intelligence — that is intelligence displayed in things like memory tests — decreases dramatically with age. In
fact, “it’s all downhill from age 20” Prof. Laibson said. “What about the 80-year-olds? It’s the 80-years-olds who have
…………………………………………………………………………………………………………………………………………
Can Crystallized Intelligence Compensate?
● Crystallized
intelligence is
what we learn about the
world, usually through
experience and
instruction
● Not determined only by IQ
● Cattell saw this as
intellectual capital
…………………………………………………………………………………………………………………………………………
Compensating Cognitive Competencies (CCC) Hypothesis
Crystallized
Intelligence
Positive Effect of Age
c
Age
Decision
performance
Negative Effect of
Age
Fluid
Intelligence
…………………………………………………………………………………………………………………………………………
12
Fluid intelligence declines with age
Changes with age…
Fluid intelligence (Gf) is the ability to
generate and transform information on the fly
- Seems critical for decision making!
Fluid
intelligence
…………………………………………………………………………………………………………………………………………
Salthouse, 2010
Perhaps experience is compensating
Changes with age…
Crystallized
Intelligence
Crystallized intelligence
(Gc) is a stable depository of
knowledge acquired through
culture, education, and life
experience (Carroll, 1993; Cattell, 1971,
1987)
Salthouse, 2010
…………………………………………………………………………………………………………………………………………
14
Crystallized Intelligence (Financial
Literacy)
FL1. Imagine that the interest rate on your savings
account was 1% per year and inflation was 2% per year.
After 1 year, would you be able to buy more than, exactly
the same as, or less than today with the money in this
account?
– More than today
– Exactly the same as today
– Less than today
– Do not know
Over 1/3 of Americans say they don’t know or get the
wrong answer
…………………………………………………………………………………………………………………………………………
So, What Did We Find?
●
Crystalized intelligence helps.
●
It overcomes the decline in fluid
intelligence
●
Older people are better decision
makers.
– Example: Given the same income, education, fluid
intelligence, crystalized intelligence boost credit
scores.
…………………………………………………………………………………………………………………………………………
8 64 &(. ,
Crystallized
Intelligence
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Effect
…………………………………………………………………………………………………………………………………………
Consider Ann, a college graduate who earns $50,000 and
average cognitive ability.
● In
our data we would predict a credit score of 693.
● What
happens if we increase
– Fluid Intelligence by 10 IQ points? 713
– Crystalized Intelligence by the same amount? 750
The effect of Crystalized Intelligence is the equivalent
of 25 years of normal aging.
Ann’s mortgage rate goes from 4.22% to 3.82%, saving
her $24,879 over the life of a loan!
…………………………………………………………………………………………………………………………………………
Where are we…..
● Financial
Decisions in older people are better than the
young BUT for different reasons
– They DO lack Fluid Intelligence
– But are improved by Crystalized Intelligence,
particularly financial literacy.
● BUT:
– A paradox: Financial literacy helps, but financial
literacy education does not!
– Decreases in Fluid Intelligence continue, increases
in Crystalized Intelligence slow down.
…………………………………………………………………………………………………………………………………………
What happens over the full life course?
1
Patience
Financial Literacy
Predicted z-Score
0.5
Debt Literacy
0
20
-0.5
30
40
Age
50
60
70
80
-1
-1.5
-2
• “Golden Age of Reason” (Agarwal et al. 2010)
• Fortune 500 CEOs avg. age of 56
• U.S. Presidents inaugurated at 55
…………………………………………………………………………………………………………………………………………
Implications for Public Policy
● We
have created good savings plans for retirement
for the uninterested (The SMarT Plan, Target Date
Funds, etc.)
● How
about using that savings?
– What does “Decumulation for Dummies” look like?
– When should you make decisions about drawing
down for retirement?
● Financial
Service Firms need to develop suitable
products, Government(s) need to facilitate their
creation.
…………………………………………………………………………………………………………………………………………