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On Monday, the Nobel Prize in Economics was awarded to University of Chicago Professor Richard Thaler.
One of his key breakthroughs could help you earn an extra $83,224 for your retirement over the next 20 years. And I’ll show you exactly how.
In fact, it’s already been estimated that Richard Thaler’s work has allowed people save an extra $29.6 billion for retirement by helping them change their behaviors.
So why is Richard Thaler worthy of winning the Nobel Prize and its $1.1 million award? According to the Royal Swedish Academy of Sciences, Professor Thaler . . .
“ . . . incorporated psychologically realistic assumptions into analysis of economic decision-making. By exploring the consequences of limited rationality, social preferences, and lack of self-control [italics in original], he has shown how these human traits systematically affect individual decisions as well as market outcomes.”
One example of his work can be seen in his research paper, Save More Tomorrow: Using Behavioral Economics to Increase Employee Savings.
His goal was to figure out how to encourage people to SAVE MORE.
The general premise is that consumers know that they should save more for retirement.
However, you may think of retirement as a very distant goal. And so, it’s easier to focus on instant gratification by spending, rather than stashing your money away in a 401(k) retirement account.
Richard Thaler’s research suggests a simple way to increase your savings every year:
Every time you get a salary increase, go ahead and spend 50% of that increased compensation.
Spending money feels good. And you can use your raise to help pay for a family vacation or to cover the monthly payments for a new car.
Note, that Thaler encourages you to SPEND 50% of the raise.
The flip side is that he’s indirectly saying that you are going to SAVE the other 50%.
Running the numbers on Richard Thaler’s suggestion shows the power of saving a little more every year.
In this example, I’ll assume that you’re starting with a base salary of $60,000. And you are contributing 3% or $1,800 per year to your 401(k)-retirement account. You’re a talented employee, and every year you receive a 4% annual salary adjustment. Meanwhile, your retirement savings are invested and growing at an 8% rate of return.
Scenario #1 shows you continuing to simply save 3% of your salary every year. Over the following 20 years, the value of your savings with investment returns grows to a respectable $133,896.
Now let’s take a moment to consider what would happen if you embraced Richard Thaler’s advice,
Scenario #2 shows the same exact things as Scenario #1, with one small change.
You continue to contribute 3% of your salary to the retirement account. Additionally, 50% of your annual salary adjustment is put toward retirement.
Over the same 20 years, the value of your retirement account grows to $217,120.
This shows that SPENDING 50% of your annual raise – and SAVING 50% of your raise – can deliver an extra $83,224 over a 20-year period. And here’s the data to prove it.
The difference between spending 50% of your raise every year, and spending 100% is HUGE.
Can you get by saving more money every time your salary increases? If so, you could be sitting on an extra $83,000 in 20-years.
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