horizontal.png

money health weekly

SIGN UP AND NEVER MISS A POST:

The More You Spend, the More You Save??


focusing on savings instead of spending
❝It's not your salary that makes you rich, it's your spending habits.❞ -Charles A. Jaffe

I'm sitting at my desk, bored out of my mind. It's 2015 and I work in downtown Minneapolis in a building with a discount store in the basement. It's a Marshalls, but it wouldn't matter if it happened to be a TJ Maxx or Ross. I go down there to kill some time. After a few minutes, I head to the checkout line with an armful of clothes. I don't need any clothes. How can I help it, though? Everything is on sale!


The reason I'm buying so many clothes is the same reason retailers like Kohl's print in large numbers the total amount you saved (the amount you spend is small). I would pick up a shirt, look at the tag, and find out I can get a $99 shirt for $33! What a deal! 


I never stop to think about whether this is the best use of my $33. Just because I save $66 (I'm being nice and assuming it wasn't marked up), doesn't mean the shirt is worth $33.


VALUING OUR STUFF: HOW OTHERS DECIDE FOR US


It's really hard to put a value on things. Think about it. How much, in dollars, is a shirt worth? In boring (some would say) economic theory, the shirt would be worth more to someone who needed a shirt than it would be to someone already clothed with a closet full of shirts. But, that doesn't seem to stop people with closets full of shirts from paying top dollar for more clothes.


Since it's difficult for us to figure out what things are worth, we tend to rely on shortcuts. One easy shortcut is to look at the price tag. When we see the price tag we can see how the seller values the product and it's quite easy to decide whether or not we value the item above or below that. When they put it on sale, though, we keep the original price in mind when we consider the value of the item.


It's an interesting idea. We shouldn't care, though, what the old price was. Let that sink in. We spend so much time thinking about how much we are "saving" but the base for that savings is a price at which nobody wanted to buy it. It was a completely inflated price. The new price seems like a good idea because we compare it to the original price. Is it as good a deal if we compared it to other things we could spend our money on? Is giving away my $33 the best use of that money or could it be better used on something else...or saved?

original price doesn't matter, only how much you pay matters

ANCHORING EFFECT


Our tendency to latch onto the original price of an item has a name that behavioral economists and psychologists use; it's called anchoring. Since we tend to be better at valuing comparisons rather than absolute numbers, we try to find a number to "anchor" to. Most of the time the anchor should have little or no impact on our decision, but we use it anyway.


If you think about a physical anchor, it keeps a boat from drifting, effectively keeping it in the same general area. Once you throw the anchor your boat can only drift within a certain range.

anchoring effect prevents drifting

That's the same thing with the anchoring effect, except that it usually involves numbers or ideas.

anchoring effect makes us spend too much

You can think of an anchor price as being an arbitrary number that we latch onto and use when evaluating the purchase. But, we shouldn't be using arbitrary numbers in our logic.

we spend more to save more because of anchoring

ANCHORING CAUSES: "SPEND MORE TO SAVE MORE"


We've already talked about one anchor, the price tag on merchandise. Another biggie is the MSRP (Manufacturer Suggested Retail Price) of a car. They set the anchor and when you "talk them down" a few thousand dollars, you win because you got a deal. They win because it's still a healthy profit margin. They were the ones who got to set the anchor, though, and we compare the final negotiated price to their anchor, instead of the absolute amount.

MSRP is an anchor