20  Product design

Product design is the first lever available to improve financial wellbeing. Good design can make distribution easier, and engagement after sale easier.

Similarly, behavioural interventions during distribution and after-sale engagement can be used to reduce the impact of poor design, but this often has lower efficacy than addressing the problem at source.

Many of the problems we have explored in this book come through poor product design. The simple act of removing the problematic design features can solve the problem. The following are some examples:

  1. The ability to give discretionary discounts to mortgagees reduces transparency and can lead to less-sophisticated customers paying higher interest. Common rates across customers advertised up-front would reduce that harm.

  2. Savers and borrowers are more attentive to initial rates (e.g. honeymoon rates) than to rates they will ultimately pay. A design with a lower initial rate will tend to lead consumers to underestimate the future costs of borrowing and to overborrow. Fixed flat interest rates can reduce that problem.

  3. Balance transfer discounts on credit cards can lead to some customers paying substantial interest when their discount period ends, having either miscalculated the likelihood of clearing their debt in advance, or through simple lapse and failing to take an action such as moving to another card. Replacing balance transfer discounts with a lower flat interest rate through time can reduce that problem.

These remedies are not, however, without cost. There are typically trade-offs between customers (and obviously for the firm itself). For instance, the removal of discretionary mortgage discounts may result in some borrowers paying more, and may even result in less credit availability for high-risk borrowers.

Similarly, balance transfer policies help credit card holders on net. The amount of credit card debt in Australia accruing interest has not increased in the last 15 years despite a more than 50% increase in credit card debt. The distribution of those payments, however, has changed markedly.

20.1 Save More Tomorrow

The classic example of successful design of a financial product is Thaler and Benartzi’s (2004) Save More Tomorrow Program. Under Save More Tomorrow, customers are asked to commit in advance to allocating a fraction of their future salary increases toward their retirement savings accounts.

Save More Tomorrow is designed to reduce loss aversion as a factor in deciding contribution amounts. A commitment of a proportion of pay rises means that the contribution can increase over time, but pay never decreases. The program capitalises on their propensity to stick with the status quo, as people are unlikely to unwind their future commitments despite being able to opt out at any time. That ability opt out also reduces regret/disappointment aversion.

The first tests of the Save More Tomorrow program resulted in 78 per cent of those offered the plan joining, 80% of those remaining in the plan through the fourth pay rise, and average savings rates increasing from 3.5% to 13.6% over 40 months. (Note the savings rate is higher than the default rate in Australia. Could the default in Australia create a low anchor for some people?)