WHY DON'T AMERICANS SAVE ENOUGH FOR RETIREMENT?

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U.S. consumers are undersaving for retirement - by their own admission and by many other measures - and social scientists have few models that can explain this problem. The proposed research will analyze the undersaving problem by developing economic models with psychological microfoundations. The research will use the hyperbolic discount function to model self-control problems. Hyperbolic consumers experience a contradiction between their long-run preference for patient behavior and their short-run desire for instantaneous gratification. The research will use a new forward induction heuristic to model the decision-making of consumers with limited financial sophistication. The project will develop a formal mathematical model of consumer behavior which integrates the effects of self- control problems and bounded rationality. This decision-making model will be embedded in a simulated economy which mimics the rich set of saving choices and incentives faced by U.S. households. The model will be analyzed in four ways. First, the simulation model will be empirically tested. Second, the model will be used to evaluate the efficacy of existing retirement instruments like social security, 401(k)'s, IRA's, and private defined-benefit pension plans. Third, the research will measure the magnitude of the undersaving problem. Fourth, the research will provide a simulation framework for designing new savings institutions which are more effective than existing retirement instruments.