The Important Role of Fairness in Choosing Annuities
Over the past several decades, the popularity of defined-contribution plans has increased, resulting in increased savings during the “accumulation” part of life. The challenge of decumulation has not received much attention in the past, but recently has moved to the forefront of the debate on how best to help retirees draw down their assets. If they spend their wealth too quickly, they could run out of money and be destitute in old age; this is known as longevity risk. If they spend it too slowly, however, they could use fewer assets than they need and die with unused wealth. In their article, Shu, Zeithammer, and Payne discuss the approximately 10,000 Americans a day who enter retirement and face several related challenges about how to spend their retirement savings.
The authors stress that, within the academic economic literature, there is significant agreement that annuities are a sensible and reasonable solution to the problem of wealth decumulation during retirement. But although economists prefer annuities, the public does not, giving rise to what is known as the annuity puzzle. The authors list four possible reasons why public demand for annuities is lacking: retirees already have the guaranteed monthly income of Social Security checks; the bequest motive, or desire to reserve some assets for heirs; the worry about having enough liquid assets to cover unexpected expenses such as medical emergencies; and the concern that the annuity distributor might default.