FOUND GUILTY OF ONE COUNT OF LIFESTYLE INFLATION
I agree that a large drive to make money is to be able to spend it. I also agree that we should be able to spend it rather than leave in absolute terror of doing so. But how much are we spending relative to each level?
Here’s a thought experiment I came up with.
You have all your necessities - a roof over your head, food, and basic clothes, but apart from that, you’re absolutely broke. You’re given some money and I’m curious to know how much would you spend comfortably on say a shirt or coffee from a cafe - anything you want within the limits really. It’s a simple world - you are not on any investing platform, and you can also assume that you will make some more money of unknown amounts next week and the next, and so on.
You make 100 dollars this week to spend on anything.
Same background, but you’re given 400 dollars. What’s your spending?
Now it’s 1000 bucks, and you can buy whatever you want within this.
Finally, you are given 5000 dollars.
I tried this on a few friends (the ones I would consider sensible), and here are the rough zones I got:
In the first case, around 10 or 20 dollars - on an outing or two to a cafe.
In the second case, about 100 to 150 dollars - take a trip into the city.
In the third case, they said they would spend around 600 dollars on some luxuries they need including the Dyson blowdryer and a coffee machine.
And lastly, in the fourth case, about 4500 or even all of it on revamping their wardrobe to all Ralph Lauren or a trip back home.
In each case, the amount of money saved increases. What’s interesting is the relative percentage of the amount spent. With the least amount of money, you end up saving 80% 0r 90% but as we progress it goes down to 75% and further down to 40% and finally only 10%.
Why do we spend more? When we were given 100 dollars, we could keep living by spending just 10 dollars or 10% of it so with that logic our spending with an income of 5000 dollars should have been 500 dollars (10% of it). On the other hand, most people would end up spending 90%.
In doing so, we create a phenomenon called lifestyle inflation. It is a trend where your spending tends to increase in line with increases in your income. This means the more you earn, the more you tend to spend. A small raise here, a bonus check there, and a new side hustle working well and before you know it, your lifestyle starts to expand to align with the zeros on that paycheck.
In life, it usually is a gradual increase in one's spending as their income increases. It can occur as a result of promotions, raises, or other increases in income, which is always great news. But it gets problematic because it can lead to a person spending more than they can afford, and possibly falling into debt. This often happens when people adjust their lifestyle to match their increased income, rather than saving or investing the extra money.
At a further level, this is called Lifestyle creep - a phenomenon where discretionary consumption increases on non-essential items as the standard of living improve. With lifestyle creep, luxury goods and discretionary spending become perceived as a right to have and not a choice—as a necessity versus a want.
The reason it is scary is that it is easy to get twisted up in it. I mean, it’s your hard work that has earned that home improvement project, designer dress, and luxury vacation—right? Well, hold your horses ….
If you’re spending all the extra money you’re making, it’s nearly impossible to get ahead—no matter how much income you bring in.
A 2017 study found that 57% of Americans have less than $1,000 in their savings. According to CNBC, even families earning upwards of $500,000 a year can still end up with little to no savings! And the culprit is [drumroll ….] Lifestyle inflation. With it being so tempting to keep up appearances rather than stash money away for a rainy day, it’s easy to see why.
So no matter how much money you make, if you have a tendency to live an inflated lifestyle, it can cause you to live paycheck to paycheck, and to have little future savings.
One population that is especially at risk, is you. Students fresh out of college, thanks to newfound jobs and a regular income have a high susceptibility to falling into this trap when given the opportunity to eat something other than cafeteria food every day. But it gets rolling and before you know it, you have been pressured to live years ahead of your new-grad earnings by say buying a brand-new car to match the value of your starting salary.
How to Avoid Lifestyle Inflation
Going back to the Thought Experiment. Is there a right ratio? There may not be a one size fits all but one suggestion is from U.S. Sen. Elizabeth Warren, who popularized the 50/20/30 budget rule in her book, All Your Worth: The Ultimate Lifetime Money Plan. This intuitive and straightforward rule can help you draw up a reasonable budget that you can stick to over time in order to meet your financial goals. The rule is to split your after-tax income into three categories of spending: 50% on needs (such as housing, food, and transportation), 30% on wants (such as entertainment, dining out, and clothing), and 20% on savings. So she, for one, would spend 30% of the amount in all the cases, regardless.
As you figure out what works for you best, this rule of thumb could be a good starting point.
Some pointers to keep in mind:
A budget plan: I’ve said it before and I will say it again. Budget, budget, budget. A budget will help you keep track of your income and expenses, and ensure that you are spending within your means. The concept of might budget is often thought to be restrictive, but it actually presents you the chance to spend money . . . on those things you’ve already budgeted for, that is. And what happens when you want to make a purchase that isn’t in the budget? Instead of relying on a credit card or loan to “afford” a splurge, stash away small amounts of cash over time. That way you can truly afford those lifestyle items you want. And you’ll be able to pay for them in cash! Instead of increasing your lifestyle when your income grows, increase your contributions to your financial goals!
Set financial goals: Identify specific goals you want to achieve, such as saving for retirement or buying a house, and work towards them. This will help you prioritize your spending and make it easier to resist the temptation to increase your lifestyle.
Live below your means: Avoid the temptation to spend all of your income, and try to live on less than you make. This will give you more money to put towards savings and investments.
Avoid lifestyle creep: Be mindful of how your spending habits change as your income increases. For example, if you get a raise, don't automatically start spending more money on luxuries.
Keep saving and investing: Continuously put a portion of your income into savings and investments. This will help you reach your financial goals and maintain a sense of financial security.
Be mindful of the "keeping up with the Joneses" mentality. People tend to compare themselves to others around them, and may feel pressure to keep up with their peers in terms of material possessions and lifestyle. Don’t fall into the trap of letting the way others spend their money dictate the way you spend yours. The truth about the Joneses is that they’re probably broke and busy trying to keep up with someone else.
Learn to enjoy the simple things in life: Finding joy in simple things can help you stay content with your current lifestyle and avoid the urge to constantly upgrade.
How many times have you heard someone say, “I just got a raise at work . . . now I can afford that new car or “the wall” TV or A Dyson airwrap”?
The question isn’t really if you can, it is if you will.
Don’t try to keep up with the Joneses.
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