Why is it important to get out of debt? Or create a budget? Or Invest? Or any of the other things that it requires to be financially fit?
Chances are if you’re reading this right now, we could sit down for hours and go back and forth with good reasons to do all of those things. You’d say, “[insert good reason to get out of debt]” and I would say, “Yes, and also think about [insert good reason to get out of debt]”. And then I’d say, “[insert good reason to budget]” and you’d say, “I know, plus [insert good reason to budget].”
This is all well and fine but we are under a critical assumption: People want to do better and just need more information.
I’d like to think the people who need the most financial guidance are at least somewhat aware they need financial guidance. But if anywhere this is true it’s on a different planet.
The more likely scenario IF (and if is the key word) a debt-ridden individual comes and asks, “Why is it important for me to get out of debt?” We would go on to talk about interest, and how the borrower is slave to the lender, and stress, and risk, and so on. And then they would say, “So why is it important for me to get out of debt?”
They don’t see any reason to change. Risk? What risk? Stress? Isn’t caring about something a prerequisite to stress? They think – at this point in their life – that debt is not a problem.
And that’s exactly the problem.
Because they’re probably right – at this point in their life there is no obvious problem. And when they think about ten, twenty years ahead? Nope, still no problem. But what they fail to realize, and what we all fail to realize, is that the picture we paint through imagining our future self is more fiction than non-fiction; more counterfeit than accurate; more illusory than real.
Ask yourself, what will make you happy in the future?
Now tell yourself the correct answer: You don’t know!
Which leaves us only one choice: Be ready for whatever it is!
“Human beings are works in progress that mistakenly think they’re finished. The person you are right now is as transient, as fleeting, and as temporary as all the people you’ve ever been. The one constant in our life is change.” – Dan Gilbert
The end-of-history illusion is a psychological illusion in which individuals believe that up to the present moment they have experienced significant changes in values, interests, personality and preferences, but in the future they will not substantially change.
In other words, people tend to see significant changes in hindsight, but fail to predict that these changes will continue into the future.
For example, a 20-year-old’s imagination of how great a change they will undergo in the next ten years will not be as extreme as a 30-year-old’s recollection of the changes they underwent in the last ten. According to psychologist Dan Gilbert, at every age we vastly underestimate the expected change to come. The people we are today are the people we were destined to become…or so we delude ourselves to thinking.
Consider an experiment in which researchers asked one group of people to think about who their favorite musician was ten years ago. How much money would they pay for a ticket to see them today? $80 was the average amount. Another group was asked to think about their favorite musician today, and how much they would pay to see that musician in ten years. This group’s average price? $129.
It seems that people realize that the top musicians of last decade get replaced with new and/or better musicians. But the musicians of today? They never stop rocking out!
We are constantly making choices that – directly or indirectly – impact our future self. From tattoos that we get or don’t get to money that we save or don’t save. We go to college and study something that we’ll enjoy forever based on what we enjoy today. We go on dates and marry a sweetheart that we’ll love forever based on who we love today. Considering the amount of people that want do-overs when it comes to career or spouses, I tend to believe this illusion is alive and well.
A Good Idea is A Good Idea Until It Isn’t
I think the single most important concept to understand in managing money is Opportunity Costs. If a $1 goes towards a house, there’s $1 that CAN’T go to retirement, a car, a vacation, a meal or a cup of coffee. If we can start to see that, say, a hundred Starbucks throughout the year is not only $__ but also one vacation, or ten nice meals, or whatever, we at least have a fighting chance to spend our money more wisely.
But I have to admit something about Opportunity Costs: It’s the worst decision making tool except all others. It’s still flawed and in no way going to immunize us from stupid decisions. Why? Because each of our current needs, wants, desires and preferences competing for that dollar are assumed to be the same needs, wants, desires and preferences that will be competing in the future. Hopefully it’s clear by now: They won’t.
I’m not sure what’s more difficult to do as a twenty or thirty-something:
- Trying to explain what water tastes like,
- Not buying the most house for your current income, or
- Not buying the most car for your current income.
I think they may all be impossible. Because we all fall prey to the end-of-history illusion, we tend to believe that what we want (and don’t want) today will be the same wants (and don’t wants) of tomorrow. So we make decisions accordingly. The only problem is that what sounds like a good idea today is typically nothing more than a fleeting preference you’ll look back on and say, “I remember feeling that way!”
The house you buy with a one-year-old that takes 40% or more of your monthly take-home-pay is a good idea until you want to send that same 14-year-old kid to a private high school. Getting a tattoo on your butt while friends watch at 18 was a good idea until that same tattoo is what the gastroenterologist is staring upon during your colonoscopy at age 40.
Big Obstacle. No Easy Solution.
The biggest obstacle facing this illusion is the fact that there is no apparent solution. Even if we do understand that our values, interests, personality and preferences will change over time, we don’t know what they will change to. So is it better to plan in accordance with today’s preferences, and hope they point us in the right direction of the preferences of tomorrow? Or is better to plan in accordance with our future, unknown preferences that will only appear once we get there?
The answer, of course, is yes.
We have to do both. Not only do we have to balance our current self with our future self, we also have to account for wants and needs that we’re not even aware of. If we only base our current decisions that impact our future self with the preferences of today, we’ll look back and be less than thrilled at the people we’ve become. But if we only base our current decisions with the unknown preference of tomorrow, we’ll be less than thrilled today.
So…Why Is It Important?
The matter at hand is not whether or not there will be opportunities that arise in your future that you could not have foreseen much beforehand. That’s guaranteed. The issue is whether or not you’ll be able to capitalize on those opportunities.
So again I will ask, what will make us happy in the future?
And again I will answer: We don’t know!
That’s why we need to budget. That’s why we need to get out of debt. That’s why we need to invest. That’s why the monthly cost of shelter (sum of mortgage, utilities, insurance, etc.) shouldn’t be more than 35% of your monthly take-home-pay. That’s why the total amount paid for all of our cars should not exceed 50% of our annual household income and be paid with cash. That’s why we need to be financially fit.
So whatever it turns out to be, we’re ready for it!
Question: Have you noticed this illusion in your own life? How have things changed? Are you “planning” for things you don’t even know you want?