Why does spending get out of control?:
We Over-focus on Income.
- 1. We ignore the associated costs associated with a purchase: depreciation, insurance and taxes, for example. Instead we focus on the immediate gain: a bigger house, a newer car, a longer vacation. We overestimate anticipated income increases and underestimate expenses when asking: “Can I afford this?”
Spending Shift 1:
Stretch the boundaries of your reasoning about “hidden” or “underestimated” costs. Write them out.
We Ignore Interest Rate Costs
- 2. We will hold savings with a low rate of return instead of applying those savings to pay down debt with a much higher rate of interest. Classical example: a 2% savings account and a 12% – 18% credit card debt.
Spending Shift 2:
Feeling safe because there are savings may be a false assurance if interest is eroding your overall financial health.
We Feel Falsely Secure.
- 3. Asset appreciation does not equate to an increase in spending power. That is, homeowner equity may go up, but disposable income (cash on hand) remains constant. Even so, many people will increase their spending because they think they are better off.
Spending Shift 3:
Think about the difference between paper assets and cash.
- 4. Unhappiness often leads to increased spending, and less savings. When making a major purchase decision, wait until you’re in a positive, good mood.
Spending Shift 4:
Don’t trust your decision ability when in a depressed or negative mood. Don’t use spending to self-medicate.
We Have Flabby Willpower Beliefs.
- 5. What you believe about willpower will increase or decrease the willpower you have. That is, if you believe you have a great ability to control your choices, even when they hurt, you will tend to exert that control. Those with a low confidence in will power tend to cope with stress by spending.
Spending Shift 5:
Beliefs arise out of proven successes. Exert willpower in smaller things, and gradually extend your discipline to larger decisions. Let yourself feel good about doing “the right thing.”
A shift in thinking will produce a shift in spending. Focus on current assumptions and self-delusions. Using a partner who has a sound financial sense may be a wise sounding board and source of accountability. Be prepared to endure both the pain of self-examination and the pain of making uncomfortable “shifts” in your spending habits. But also envision the rewards of true financial well being. For more information, see: WSJ Article.