One’s behavior and emotions are big indicators of how their Finances are going to turn around. Think of instant gratification and consumerism. How many times we go to a grocery store and end up impulse buy. Think of how easy it sometimes is to go get that new car despite knowing that the monthly payments are something that we can only just afford. The whole concept of lifestyle inflation is based around ‘feeling-better’. If I can afford, shouldn’t I buy it ? Why is Personal Finance dependent upon your behavior.
A 2023 poll by Leger shows that nearly half of Canadians and Americans are living paycheck to paycheck. This isn’t new. Similar studies in the past have shown similar results with Canadians embracing and incurring higher debt levels. In the world of money and personal finance, the way we act and make decisions plays a big role in how well we manage our finances. Beyond just looking at the numbers, let’s dive into why our behavior matters in personal finance. We’ll use insights from trusted sources to help us understand why this connection is so important for achieving financial success.
Understanding How Our Mind works with Money
- Behavioral Economics: Richard Thaler, also referred to as the ‘father of behavioral economics”, has written and talked about several theories on financial miscalculations. Think of a gambler who thinks his luck will not run-out. I, often, think of buying a our fore-ever home on our projected career growth. But is career and income progression really a guarantee ? Think of holding on to assets that are losing values in the hopes that your fortunes will change one day. Daniel Kahneman shows us that 90% of our financial decisions are based on emotion, 10 % on logic. Our feelings, shortcuts, and emotions can impact the way we handle money.
- Emotions Matter: Behavioral finance researchers, like Shlomo Benartzi, have highlighted how our feelings influence our money choices. He famously quoted that self-control is not a problem in the future. Self-control is a problem today when we have more tempting choices. The emotion of immediate gratification leads us to spending when our first thought was saving. Recognizing this helps us build a well-rounded approach to managing our money.
The Power of Habits in Money Matters
- Building Good Money Habits: Charles Duhigg’s insights in “The Power of Habit” teach us how habits shape our daily and long-term money choices. First step is to we recognize patterns or cues that trigger a habit, followed by creating a routine and a reward. An example can be the routine of saving money.
- The Cue in this example can be receiving a paycheck
- An associated routine can be Automated transfers to a Savings Account or to an Investment Account
- Our reward could just be feeling good about building towards financial security. I generally consider getting us a coffee from a favorite coffee store each time I achieve this.
- Breaking Bad Money Habits: Inspired by James Clear’s “Atomic Habits,” we can use practical strategies to move away from harmful money habits and develop positive changes. The concept is similar. We’ll need to identify the bad habit. An example can be impulse buying. We can work on understanding our trigger. This could be availability of a credit (not joking !) or it could be not making a set list for groceries. Then, we’ll need to replace this habit with something more positive such as developing a grocery list and sticking to it. Not exactly relatable, but I broke my smoking habit which was costing me more than I could fathom at the time.
Making Choices in Your Finances
- Understanding Decision-Making: According to experts like Dan Ariely, managing money involves a series of choices. Looking at the pros and cons of each choice helps us navigate our financial journey. An example can be positively framing investing over a long duration to reap compounding rewards. You can frame this by stating that over a long duration, being invested in the market (diversified). Markets generally have shown an upward trajectory over extended periods despite short-term fluctuations.
- Balancing What You Want Now and Later: Balance the importance of finding a balance between what you want right now and what you want in the future. This helps guide you toward a better financial path.
Learning About Money, Making Positive Changes
- Why Financial Education Matters: Experts like Annamaria Lusardi stress the importance of learning about money. This knowledge helps us make smart decisions and take control of our finances. An example of this is understanding the importance of Compound Interest. Individuals who understand Compound Interest can leverage it to their advantage. So, keep learning, growing and applying.
- Practical Ways to Improve: Strategies for making positive changes, like setting goals and visualizing success, are inspired by positive psychology experts Martin Seligman and Carol Dweck. For us, we use our spreadsheets to track monthly performances and costs diligently. This gives us insights into where we stand currently and what we need to do in order to level up. Another example could be learning more about budgeting and adopting a budget for a more balanced financial outlook.
Conclusion
Understanding how our behavior and money are connected is key to financial success. By using insights from experts in behavioral economics, habit formation, and financial psychology, we can transform our approach to money. Applying these lessons helps us on a journey toward financial well-being, turning personal finance into a more fulfilling and enjoyable part of our lives. Personal Finance is indeed an extension of our behavior.