1 Getting from “R” to “D”: Cutting Edge Research for Product & Market Development Jonathan Zinman Department of Economics Dartmouth College September 20, 2007

2 Where’s the “I” Going to Come From? Academic research as source of inspiration –Substantive innovation Academic research as a discipline –Process innovation

3 My Perspective/Approach “R”: scientific standard Robust General Learn something about the “whys” of consumer behavior “D”: double bottom line standard

4 My Perspective/Approach Economic research at the intersection of economics/psychology/decision sciences Beyond Ec 101 –Not homo economicus –More like homo anomalous –But basic models still powerful Challenge is to integrate the right sort of realism with the general –Economic methods still powerful

5 Plan for Today I.Innovation from research Lessons from “behavioral retail finance”, and how they’ve been applied. Examples of taking R to D Stuff you can grab off-the-shelf II.Innovation through research GYO: organic innovation Done strategically, systematically, scientifically

6 Big Substantive Takeaway Design matters for consumer decision making There is no “neutral” architecture –Baggage carousel example –Think about analogies in your customer environment

7 Design Matters The environment, context you create (or neglect) is going to affect (potential) member decisions –Shaping/nudging vs. teaching –“Libertarian Paternalism” (Sunstein & Thaler) Must engage design: no benign neglect Academic research is a source of inspiration/guidance

8 Design Matters: Product Presentation Example #1 “R”: defaults have huge effects on behavior –401k: Are you opted out or opted in? –Opting in has huge effects on participation –Default portfolio “sticks” “D” –Firms that want to increase participation change default to opt-in –Policy changes now too

9 New “D” on Defaults How do I change the default? –To promote saving? –To encourage enrollment? –To encourage financial planning?

10 Design Matters: Product Presentation Example #2 “R”: Advertising content can have huge effects –Large relative to price in our work –No “neutral” direct mailer –But hard to predict ex-ante what types of content spur demand “D”: theorize, test, refine, retest –Direct mail discipline –What the leading FIs do

11 Design Matters: Product Presentation Example #3 “R”: choice overload –Not just about target marketing –Also that too much choice demotivates “D”: tailor menus, limit choices –How strike the right balance? Test. –But err on side of few choices E.g., in our research 1 did much better than 4

12 2 more speculative examples “R” is there Just starting to test some “D’s”

13 Design Matters: Product Presentation Example #4 “R”: people systematically underestimate the cost of intertemporal tradeoffs –These are biases in perceptions of costs and benefits, not biases in preferences or expectations –People underestimate interest rate on short- term installment debt when shown monthly payments –People underestimate future values from saving (compounding problem)

14 Design Matters: Biased Cost/Benefit Perceptions “D”?? (speculative here) –Make future values vivid (don’t lean on annual yields, particularly for long-term products) –Credit disclosures matter Steal customers by “debiasing” those duped by competing lenders –Your new savings customers might be borrowing now With the right pitch, will they switch?

15 Design Matters: Product Presentation Example #5 “R”: people are inattentive, procrastinate, impulsive –They end up regretting their financial decisions and worrying they don’t save enough “D”: make it easy –Impulse saving? –Fine line with product development… –Other ways of changing front end…

16 Design Matters: Product Development Example #1 “R”: limited attention to saving “D”: make it easy –“Keep the change” –Mortgage saving

17 Design Matters: Product Development Example #2 “R”: saving requires commitment that’s in short supply. –Easier to spend/borrow than save “D”: provide products with commitment –SMART –SEED –Customized spending/borrowing limits

18 Design Matters: Product Development Example #3 “R”: commitment/self-control problems more generally: –Weight –Exercise –Smoking –Calling grandma “D”: commitment contracts –Templates designed & enforced by 3 rd -party –“Bet on yourself”

19 Recap So far: I.Research (and applications) you can grab off the shelf Now: II. Doing your own “R”. Real research you can bank.

20 What is “R”? Systematic experimentation Identify something you think will work based on theory, practice, market research Test it –Can build in features that will reveal why it works (or doesn’t) Gold-standard testing: Randomized-control trials –Think “treatment” & “placebo” for financial decision- making Refine it Retest

21 That Sounds Like a Lot of Work Actually not in direct mail especially; other direct marketing But yes in other spaces: –Product presentation in-branch –Product development

22 Should I Do It? Payoffs over years, not quarters Benefits to learning why things work and don’t are even longer-term –Doing right by your customers may only pay off over long haul –Is doing right by my customers a source of comparative advantage

23 Is R to D for me? Key question: Does R to D create comparative advantage?

24 Is R to D a Source of Comparative Advantage? My half-baked assessment is that answer is “yes” for many CUs Large CUs vs. other large FIs –Longer horizon (less quarterly pressure)? –More of a double bottom line? –If yes then testing whether and why innovations work should pay off

25 R to D and Comparative Advantage Small/mid CUs vs. community banks –Scale matters for this type of process (the tyranny of sample size) –CUs better at cooperating to reach scale?

26 Why Not Just Grab Off the Shelf? First-mover advantage Context can matter –What works over there might not work over here –“R” just starting to get a handle on when and why context is critical Process and productivity transformation…

27 Experimentation is its Own Reward It’s a process innovation Use to cultivate a learning organization –Lever for leveraging better use of existing information, resources –Increase productivity, morale –Discovery is fun and rewarding