Abstract
Employer-sponsored retirement plans are a crucial component of the US savings system. Many of these plans include funds substantially more expensive than comparable alternatives available in the marketplace. To understand why these high-cost investment options are provided in equilibrium and to quantify the effects of alternative plan design policies on investors’ welfare, this paper introduces a structural model of plan menu choice and fee competition between funds. The model features a two-layer demand system: plan sponsors construct retirement menus, and plan investors form portfolios from the available options. Consistent with the presence of agency frictions, model estimates imply that sponsors are only half as responsive to funds’ fees as investors and favor the inclusion of funds affiliated with the plan recordkeeper. In response, funds charge sizable margins to investors. This is especially evident for Target-Date funds (TDFs), whose estimated margins are nearly twice as large as the median of all funds. Because model estimates suggest that a sizable share of investors is inactive, counterfactual policies mandating the inclusion of low-cost default options prove more effective than simply requiring the inclusion of low-cost options like an S&P 500 tracker.

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