A bad ‘oh man’

Question: I seem to find spending so easy that I end up ruining my budget. I have little savings to speak of. How can I remedy this situation? Answer: Are you the type of person who wonders at the end of the day how that P1,000 that you placed in your wallet or purse was spent in just one day?

Mental accounting is the behavioral economics theory that says we assign value to money differently depending on how our money is received, kept or spent. And sometimes, this behavior leads to irrational decision making.

There is a tendency to put “extra” cash in wallets or purses to cover potential expenses. The fascinating thing is that many times, the brain does not even have a clue as to what those expenses will be. It is like less importance or value is placed on the “extra” cash.

The thing is—this extra cash does not even represent emergency funds. Those emergency funds are reserved for the more sensational events like house repairs, medical expenses and the like. The cash placed in wallets or purses represent a form of discretionary spending, which the brain has not budgeted for and for which there is no accountability. And with no tracking of spending, regret simply ensues at the end of the day when the brain cannot figure out how the P1,000 was spent in just one day.

The Filipino saying of “kapag may isinuksok, may madudukot” (when there is something set aside, there is something you can draw from) speaks clearly of the folly of this practice. At Personal Finance Advisers Corp., we add that “kapag sa wallet iyan isinuksok, tiyak iyang madudukot” (if you keep it in your wallet, you can be sure you will draw from it). And contrary to the belief that loose change is easily spent down, it is easy access to money that facilitates easy spending. After all, 50 P20 bills have the same value as one P1,000 bill.

If you behave this way with your money, then what you have is a bad omen and a bad “oh man” in personal finance!

Money is money, regardless of where it comes from, where it is kept and how it is spent. Consider putting P1,000 in a (digital) savings account. That P1,000 in the bank can buy the same volume of stuff as the P1,000 kept in a wallet or purse. But because the brain has accounted for the bank account as “savings,” the temptation to spend it is less than money in a physical wallet or purse.

But why will the brain classify an amount of P1,000 less valuable than what it truly is and relegate it to an amount for mere discretionary spending? There could be many reasons for this behavior. One could be that the amount was not yet assigned to a more lofty goal, like children’s future education or a retirement fund. But it could also be as simple as that P1,000 being accounted for as new money, like a bonus or a gift from someone and not yet growing roots in the brain to be considered part of the brain’s store of wealth.

The same P1,000 discretionary budget could also be considered by the brain as the missing piece to facilitate taking advantage of savings from volume purchases. What is worse is that this kind of behavior leads to more spending through drawdowns from real savings or even contracting borrowings just to complete the transaction.

Now, how can the brain overcome the ill effects of mental accounting. As much as mental accounting has disadvantages, it also has benefits. The best approach is to use mental accounting to the brain’s advantage. For one, regardless of how the money was earned, the brain needs to say that it deserves all types of income, windfall or not. Thinking of alternative ways to allocate money also helps.

Another is to let money grow roots into the brain’s store of wealth by keeping it in a savings account for a fair amount of time, say three to six months. After that time, the brain will see interest earnings and would feel it more painful to spend the money. This is particularly helpful when larger amounts are concerned and where penalties are applied to the pretermination of placements or investments.

Another way is to simply track spending and frame every cash outflow for what it is, a negative or loss, for the brain hates losing. After a while, the brain will get the hang of it and tracking will not need to be in real time to help minimize such losses.

There is much more to discuss. But even with the simple suggestions here, you can already turn your bad oh man to a cheerful “oh man!” INQ

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Efren Ll. Cruz is a Registered Financial Planner and Director of RFP Philippines, seasoned investment adviser, bestselling author of personal finance books in the Philippines and a YAMAN Coach. To consult with a YAMAN Coach, email [email protected]. To learn more about personal financial planning, attend the 97th RFP Program this August 2022. To inquire, email [email protected] or text 0917-6248110.