A surprising new form of financial innovation

Fin-tech and innovation across finance are all the rage today. But this blog post is not about them.

Technology and its more advanced applications, including artificial intelligence, clearly have the power to propel the practice and power of managing money. However, there is still one last frontier that stubbornly resists all attempts of innovation and technology to improve individuals’ financial positions: our brain. With two Nobel prizes having been awarded to its researchers in this millennium, behavioral finance is definitely coming of age within the broader field of finance and economics. Yet, there seems to be barely any recognition of its power or potential in the quotidian practices of financial institutions, especially in the areas of helping people improve their financial situation or improving their wealth accumulation behaviors (as opposed to encouraging them to take on more debt).

My all-time favorite institution that is launching a spirited assault against the quirks of our minds is the beautifully named Center for Advanced Hindsight. Virtually everything about this lab triggers delight, starting from the button on the home page that says “Don’t Click Here”. Yes, I couldn’t resist it either, but it was the best button I ever remember clicking!

The Center is the brainchild of Dan Ariely, a leading researcher in behavioral science, and author of equally delightful books including Predictably Irrational, and The Upside of Irrationality. The lab cites “making people happier, healthier and wealthier with behavioral science, at home and abroad” as its core mission on its website. An integral part of this Center is the Common Cents Lab, which is dedicated to the “wealthier” aspect of its overall mission, with a special focus on low to middle income individuals. The Common Cents Lab partners with for-profit, non-profit and policy making institutions to help advance its mission.

What elevates this institution for me, is the magnitude of impact it is able to create in environments with little to no resources, among disadvantaged individuals, to create financial impact that really makes a difference to their lives and well-being. It’s not hard to create robust plans and interventions when supported by a significant arsenal of people, resources and money, whether at the individual or organizational level. But it is far harder, and more laudable, when similar or even better results are created without all those advantages. Here, then, is a brief snippet of the insights  from the work of this amazing lab in 2017. The full report can be accessed here.

Insights from behavioral science levers for financial services:

  1. Just asking makes a difference: Just inserting a simple question at the moment of action can significantly increase action rates, whether it is to increase mortgage repayments, provide referrals, or deposit a percentage of the paycheck into a savings account (versus cashing it all when received). The implications of this finding are virtually limitless, and have the potential to vastly impact any desirable action a provider wishes their customer to take, especially if it is patently and obviously in their best interests to do so.
  2. Timing the ask well makes all the difference: The nuance that takes this finding to a different level is to realize that the ask has to happen when the subject imagines their perfect future self (and resulting perfect behavior), rather than in the tempting and inconvenient present. As an example, asking tax-payers to save a percentage of their refund works much better when timed before they file their returns, than when they are flush with the cash, and far more likely to succumb to the temptation of instant gratification. The same exact tactic can work in any wealth situation, ahead of a big bonus, pay raise or job change, for example.
  3. Reminders pack power: We all know where the road paved with good intentions leads to! Even a simple text reminder designed and timed well (e.g., with an ask at the right psychological moment) can work wonders in increasing action or adherence to a desired behavior. Applications range from the mind-numbingly simple (e.g. reminders to take advantage of benefits) to more complex. (e.g.a well-timed reminder to perform a portfolio-related action, or exercise an investment choice at the moment of desired action).
  4. Make it effortless to say yes and hard work to say no: This is also known as the magic of the opt-out formula, and should be familiar to any reader of Nudge, or other popular behavioral economics books. In this specific instance, similar to making 401(k) participation an opt-out versus an opt-in, bundling a retirement savings account with a checking account significantly increased participation in the plan. This lever has powerful application in product and solution design, by pre-bundling products or options that clearly benefit the user, while giving them an opt-out, rather than burdening their already-overstretched cognitive capacities to make these decisions piece-meal.
  5. Design for instant action and gratification by giving a reason to act now:  This challenge is especially difficult in an area like long-term wealth management where the actions are all near-term and inevitably painful (not to mention very easy to visualize), in contrast to the vague and hard-to feel benefits in a hazy future. The trick here is to translate the desired action into something tangible and even tactile. For example, the report states that merely providing a card to punch each time a savings deposit was made increased adherence from 33% to 49%, a difference of almost 50%! While it may sound corny on the surface, there is little cost to experimenting with various types of tangible and tactile feedback mechanisms even to wealthier and more affluent audiences to assess upside from this lever: for the cost, the benefit could be truly immense.
  6. Provide social proof of desirable financial behaviors: In this world with its plethora of messages urging us to spend, spend, spend, it doesn’t hurt to use the powerful weapon of social proof to benefit individuals’ pocketbooks instead. Simply providing small nudges of social proof can significantly increase the incidence of the desired actions, whether it is increasing savings, or filing taxes on time.
  7. Use the quirks of the mind against its own weaknesses: The mind uses shortcuts (also known as heuristics), approximations and mental models as tools to make it easier for it to make decisions and handle the tasks it is given. Using these quirks to promote desired behaviors makes it both mindless and painless for the individual to advance their own well-being. As an example, the report cites the use of mental models that round up financial amounts. Using this rounding up feature to actually pay off the greater amount can accelerate loan pay off times (or savings and investment rates).

The report concludes with the sobering and objective reminder that regardless of what we think or “know” to be true, empirical testing and verification is an absolute requirement to ensure that these levers not only work, but that they work in the way they were intended! I cannot wait to see what future annual reports from this amazing organization will bring.

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