Add-ons, warranties and the like

 

The insurance “add-on” product market is apparently worth £4 billion a year.

 

And the FCA, the regulator for financial services, says that consumers are “simply not getting value for money”.

 

Mind you, Simon Burtwell the head of UK general insurance at Ernst & Young is reported as saying that rate rises would be good for the industry long-term because “currently there is a general trend of consumers paying too little for their insurance products”. 

 

I’m not bad at maths, so I can see a wee bit of a conundrum there.

 

An expert says that people are paying too little, while the regulator says they aren’t getting value for money – which by implication means that they are paying too much.”

 

Who’s right?

 

Probably, both are, but they are, like “experts” the world over, talking about different things.

 

Insurance isn’t particularly complicated, in principle.  Basically, an insurer works out the odds of something happening, works out how much they will have to pay if it happens, and multiplies one by the other.  That’s the “pure premium”.  They then add a bit for admin and profit, and that’s the premium.

 

Insurance people don’t like it (I know, I was one, I’m still qualified as an Associate of the Chartered Insurance Institute), but it’s very much like being a bookie. Turf Accountant’s (as bookies prefer to be known) do much the same, the point being to be in profit whichever horse wins the race or whichever house is flooded etc.  

 

It’s the same principle with “add ons” like extended warrantees.  If a shop (or insurer) is going to offer one, they work out the odds of the warranty being claimed on (the fridge or whatever packs up), what they have to pay if it does, multiply the two together and add admin and profit, and that’s the premium.

 

Except usually the profit margin is huge compared to the pure premium.  

 

So the FCA are probably comparing costs to other types of insurance (which are still potentially expensive, but closer to the actual pure premium) and the insurance companies are comparing them to the sort of margins that they’d like to get on all their business, and have traditionally got on add-on contracts.

 

You can understand the attitude of EY and insurers.  They are businesses, they’re trying to make money.

 

You can also understand the attitude of the FCA, they are trying to “protect” the public.

 

But what’s tricky is how the FCA go about it.  They say “there’s a clear case for us to intervene…..Firms must start putting consumers first and stop seeing them as pound signs”.

 

So what the FCA wants is for businesses not to operate like businesses, but to operate like regulators who are supposed to look after the public.

 

What they’d be better off doing is educating the public. 

 

And they could do that by buying Taming the Pound for everybody – or at least circulating and promoting the “quick reference” sheet at the end of the chapter on insurance!

 

If people followed these few principles, they wouldn’t end up with expensive add-on policies – so if you are interested in getting “value for money”, you’re best off ignoring the “experts” and the regulators and remembering:

 

  • Insurance is to cover calamity, not inconvenience.
  • The insurer will charge the “pure premium” plus admin costs and profit, so you can’t “win” on insurance.
  • Do the maths.  See if you should “self insure”.  Insure stuff that would be a calamity, not (usually) an inconvenience.
  • Do things to reduce premiums, fit locks, smoke detectors, etc. and look at the excess on the policy.
  • Work out what you want and need and buy that; don’t buy what they want to sell.
  • Protection, like life assurance and PHI should at least be considered if you have dependants or anybody who will suffer financially (or if you’d have big problems paying your bills if you were ill or injured).
  • Extended warranties are usually a waste of money.
  • But as with everything else, do the maths (or hire somebody independent to do it for you).

 

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Mindfulness and money

 

There’s a nice article about mindfulness .

 

But why is it “Over nearly four decades, Ellen Langer’s research on mindfulness has greatly influenced thinking across a range of fields, from behavioural economics to positive psychology.”?

 

As I keep saying, positive psychology, happiness, wellbeing, values, flow etc. are what we’re (in theory) aiming for.  We all want to be happy and fulfilled.  We know that money doesn’t guarantee that we’ll be happy, but if we use it right it can help.  So money is a tool that we can use to help us be happy.  Sadly, we can also use it to make no difference or even to make us unhappy.

 

Behavioural economics is psychology lite – it’s about human behaviour not as humans actually behave but as thinking machines would deal with money if they hadn’t evolved as humans.  But it’s essence is understanding how people behave and make decisions about money, like financial psychology (but with less vital behavioural context and more irrelevant economic theory).  

 

So if it’s about making decisions about money and the purpose of money is to make us happy, how is there a “range” between positive psychology and behavioural economics?  Surely they are aspects of the same thing (financial psychology).

 

And mindfulness is useful in all sorts of ways, not just as in the article, but in ways I mentioned in Taming the Pound.  Among other things, it helps us to make better decisions about what we really want to make us happy, and enables us to make better financial decisions (not ones that only make us wealthier, but ones that make us happier).

 

I do wonder when the various finance “experts” are going to understand the simple fact that there isn’t a “range” between these concepts, they are closely linked.

 

If they do understand it, they might realise that behavioural economics in isolation isn’t at all a good way to plan finances (however scientific anybody thinks it is).  They might also realise that positive psychology has some great ideas, but something like mindfulness is really handy to be able to put those great ideas, and the principles from behavioural economics, into practice, in an integrated way.

 

 

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Tell me what you want.

 

I just went into a supermarket. As I headed for what I wanted to buy I was told, “sir, get a free mug.  When you buy these tomato soups.  It’s a really good offer”.

 

I thought, “who is it good for”?

 

Do I need a mug? No, we’ve got so many that they end up stacked.  Do I need tomato soup? No, we’ve got soup and I don’t particularly like tomato, unless it’s fresh, made with basil etc., so a cheap packet is not on the list.

 

So how is it a “really good offer”?

 

It might be quite good if you want some cheap(-ish) tomato soup.  Or if you will use the soup and want a mug – assuming that you can’t buy the mug cheaper anyway.  

 

But a “really good” – I doubt it.

 

It’s a lovely example of how wants, needs, values and costs all get mixed.  

 

I don’t need it, I don’t want it, it has no value to me.  But because it costs less than it might do, it’s alleged to be a “really good offer”.

 

It’s focussing entirely on cost, not on value, not on need, not even on want. 

 

It’s telling people to focus entirely on whether something is cheap, not on whether it is of any value, whether they need it, whether it is worth anything to  them.  

 

How many people get sucked in by this every day (hint – if it didn’t sucker enough people, supermarkets would’t do it)?

 

So they spend, say, £2.50 each day – perhaps £15 each week, £60 each month, £720 each year.  And that’s net.  If you offered them a pay rise of £1,000 they’d be really keen, but they’ll waste the equivalent amount because “it’s a really good offer”.

 

How about you – do you think it’s a good offer, or do you compare things to what you actually need, want or value before deciding whether it is any sort of offer?

 

And do you do the same thing with a new mobile phone, a cable TV deal, a new car and so on?  Do you actually think about what you value, what you need, what you want, or do you allow other people to focus you on what it costs?

 

 

 

 

 

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Gambling or rent?

 

The mass media are finally catching up.  So are the “experts”.

 

We’ve started to get stories about people borrowing money from payday lenders to pay their rent, such as this in the Guardian.

 

I said a couple of months ago that the problem with payday loans was that people used them for the wrong things.  They buy things they don’t need, and then don’t have the money for things they do, one of the points I made being:

 

“having material things might temporarily make you feel one-up on the neighbours, but shortly the bill would come in and the neighbours will take out an even bigger loan to buy an even more expensive car, TV, gadget or whatever. Then we’re into a sort of purchasing arms race, with everybody spending money they don’t have to impress people they don’t like, by buying things they can’t afford.  That way lies bankruptcy and madness.”

 

Instead of an outcry about people trying to make a living (however repellent their morals might be), why not educate the population to understand what they really value and to prioritise and set goals for what is important – like their rent?

 

In the same way, we have lots of outcry about gambling in the high-street, with councils wanting to be able to stop this “urban blight“.  

 

I pointed out that it wasn’t the availability of gambling that was the problem, it was the way that people thought about it.  If people are educated about what makes them assume that gambling is a realistic way of dealing with finance, they can get some control over it, they won’t gamble so much and you won’t have masses of bookmakers and fixed-odds machines in the high-street, because there will be no profit in it.

 

As I said:

 

“The odd flutter on the Grand National, a couple of pounds a week on the lottery to give you a few hour’s pleasure thinking about what you’d do with the money etc. probably isn’t going to hurt you (but it still might, if you don’t actually have the money to gamble with).  But if you look at gambling as a way to solve problems – you probably need help.”

 

It would be so good if the charities, Government etc. stopped complaining about businesses taking advantage of people, and started to educate the people instead.  

 

They could start by buying everybody Taming the Pound – it would give everybody what they need, and would be a lot cheaper than constant litigation to prevent businesses advertising, opening shops and making loads of money!

 

 

 

 

 

 

 

 

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Overspending at Christmas

 

There’s something about Christmas. It’s a time of giving, being happy etc.  

 

And of spending money.

 

There were some figures in the papers last week, from research by the Halifax.

 

They said that why we spend is:

 

Wanted a perfect Christmas           41%

Lost control of spending                16%

Last-minute panic buying               13%

Wanted to spend same as friends   4%

 

And how we paid for it

From December salary                67%

Savings                                        34%

Other                                           20%

Overdraft                                     14%

Store card                                    12%

Borrowed from friends                10%

Payday loan                                   7%

 

 

If that’s true, then 43% go into debt to pay for Christmas (I’d guess it’s higher, realistically) and exactly the same proportion wanted a “perfect” Christmas.

 

So what would be perfect?  Wouldn’t it actually be spending it with friends, rather than competing with them or borrowing from them?

 

I did a video interview about it 

 

 

You might find it interesting that I was interviewed before Christmas (hence the Remembrance Day Poppy in my button-hole).  But I made the points that came out in the research in the following January about why people spend, what they spend it on and where they get the money.

 

You might want to skip over the brief commercial break after about 23 minutes, but stay with it as we carried on the interview from 24 until the 36 minute mark.

 

Incidentally, I was on the same show a few months before, 

 

You might notice that Chrissy (the hostess) pronounced my name wrongly, and that I use my hands to emphasise points so I look like a tik-tak man at the races. We both learned from that!

 

But with newspapers and banks echoing what I say, albeit three months late, It is getting obvious that working out what you really want first (such as, what is your perfect Christmas?) is a better way than trying to spend “sensibly” when you don’t really know what on earth you want.

 

 

 

  

 

 

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Positively avoiding debt.

 

I had some feedback the other day that recently I’ve been tending to focus on what people do wrong with money.  Given that I use positive psychology a lot and emphasise the value of things like hope and optimism, that was a bit of a shock.

 

But I have to face it, it’s true.  The last couple of posts have been about the idiocies of politicians, what people do that doesn’t make sense, and so on.

 

So I thought I’d put it right and talk about positive things that you can do to avoid debt, or control it if you already owe money.

 

First 

Frame things positively.  So think about what you want to do instead of being in debt.  I say more about that in Taming the Pound  but let’s take an example.  Say you’ve got a debt (or are about to run up a debt) of £500.  You can focus on that, which is pretty depressing, you’ve got to pay it off, it’s worrying etc. It probably makes you want to go for “retail therapy”!

 

So think positive. What would you like to do, what is a positive image?  Maybe you want to take a holiday.  Think about that, how much is it?  

 

If you’re in debt, think of the figure of paying off the debt (say, £500), plus the amount for the holiday.  Strange as it may seem, it’s easier to motivate yourself to pay off the bigger amount for the debt plus having the holiday than it is to pay off the debt alone, because you have the positive image of the holiday in your head.  You’ve got the motivation because the human reaction to something scary (like a debt) is run away and not deal with it.  But you’ll happily tackle something fun, like a holiday and take the debt in your stride.  Remember when you were at school, you could feel too ill to go to school, but be well enough when you were invited to a party.  

 

The same thing applies when you want to avoid spending money.  Think about the really great use of the money you could do, like the holiday.  If you focus on that, and consider how fantastic it will be, you are doing something fun to save your money up – it’s a great idea and you’re happy about it, so you save the money.  People tend to get worried about saving, feel they “ought to” save, won’t have any fun etc.  But if you turn it round to the positive image, it’s fun.  

 

There’s also the point that the human mind doesn’t do negatives.  If you try to think “don’t be in debt” you will immediately focus on debt.  That turns your thoughts to worry, depression etc.  If, instead you think about the good stuff you’re going to do, the pleasure you’ll get out of not spending money now and saving it for something you will really enjoy, you’re making it fun to control your money.

 

Second.

Work out what you really want. And think about what you need.  You might quite like a new pair of shoes or some gadget, but do you need them as much as you need to pay your rent or to buy food?  And do you really, really want them?  One good trick is to think, “how much do I want this on a scale of one to ten?”  And don’t buy it unless it’s at least an eight or it is really needed.

 

What you’ll find, if you are honest with yourself, is that the things you spend money on that you truly want and will enjoy are going to be in one of a few categories.

 

  • They’ll be experiences, like holidays, social events, parties, having a trial pilot lesson etc.  You’ll remember them when the “things” you bought are long forgotten.

 

  • They’ll be bought for others.  We’re social animals, and if you think about it you’ll find that it really is more fun to give than to receive.  The pleasure of seeing the person’s face, of the feeling that you get lasts long after the stuff you bought for yourself is thrown away.

 

  • They’ll be things you waited for. Funnily enough, although we live in an age of “instant gratification”, we get a lot more out of the “pleasurable anticipation” of things we really want, the waiting, the imagination, than we get out of the things themselves!

 

That last point might seem odd, but it’s the same principle Hitchcock used.  There’s nothing so frightening as your imagination, so Hitchcock didn’t often show the murderer, he just let people got terrified by their imaginations. In the same way if you buy everything the moment you feel you want it, you’ll almost invariably be disappointed, but if you wait and savour the anticipation you’ll find that you get far more pleasure out of it, whether you eventually buy it or not.  And, of course, you give yourself time to find out that you’re not really bothered after all, and then you’ve saved your money as well!

 

Third 

When you have decided what you really want and that will give you pleasure (which might be having a debt free Christmas and a New Year holiday), think about the things that will bring you pleasure and that don’t necessarily cost anything.  Using your skills (like art work to produce your own cards, making presents for people etc.), being sociable (in person, on Facebook, by phone, whatever), or doing things for others will all make you happy.  And they don’t usually cost much money.

 

Fourth

When you know what you want to spend your time and your money doing, plan what you’ll actually do.  You’ll probably find you have way too much to do that is fun and that you really want and need, and you don’t have time to get depressed or to spend loads of money you don’t have on things you don’t really want.

 

And then if you need to make economies, you’re doing them for a good reason, because you’re going to get more out of life. Checking your energy supplier charges, setting the thermostat down a degree or two, boiling only the water you need, resisting impulse buys and so on are actually fun little challenges to yourself when you know why you’re doing them.  You get this great feeling of being in control of yourself, and you focus on all the great things you’re going to do with the money instead of wasting it.  

 

If you are doing “responsible” tasks like that because you have to, they are boring, you won’t want to do them, you’ll give up when it get’s hard and it won’t work.  But if you know why you’re doing them and make it a game with yourself, you can have fun and develop your skills – so you get more pleasure out of the things that need doing, and have more time and money to do the things you want to do.

 

Try it – and do let me know how well it works for you, because it will work.

 

 

 

 

 

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Greed isn’t good, it’s one of the 7 deadly dwarfs of the apocalypse!

 

 

Quite reasonably, people have pointed out that Boris Johnson has got it wrong  

 

That’s a good article, although it isn’t as funny as Jeremy Hardy’s brilliant comment on The News Quiz, that formed the title of this piece.

 

It’s interesting  because Boris is apparently very clever.  Apparently he talks five languages fluently, including Russian, English and nonsense.  So how can he be quite so ignorant?

 

For one thing, he talks about IQ as if it is an accurate measure of income, the higher one is, the higher the other.  There is a correlation, but it’s not that great. Intelligence (or whatever it is that IQ and similar tests measure, if you aren’t too sure they’re actually doing what they say on the tin) is the best single predictor of managerial success.  But that doesn’t necessarily correlate to income.  There are plenty of poor, unemployed high-IQ former professors etc. and I’m not sure that Premier league footballers, among the highest paid in the land, would win prizes for intellect.  

 

Boris is, as is normal in politicians of all parties, and all levels of intelligence, confusing what he thinks ought to be true, with what is true.  Like everybody (politician or decent human being) he believes himself to be a “good guy”.  Since he’s wealthy, that can’t be (he believes) because he is lucky (the most probably explanation), a money-grabbing opportunist or any description his enemies might use.  He believes he’s wealthy because he is like he is, a good guy, an intelligent guy and more worthy of money than others who are not like him.  

 

He’s wrong.  He probably is smarter than most people.  But on it’s own, that isn’t reliably going to make him more money.  Nor is he necessarily a harder worker than others, that doesn’t guarantee wealth either.  Or more deserving, or nicer or anything much else.  He’s most likely to be wealthy because lots of things came together for him (the fun way to find this out is to read Outliers by Malcolm Gladwell, or Bounce by Matthew Syed).

 

So he’s got that wrong.

 

He’s also got the “big picture” wrong.  Greed drives people to want material things, to “keep up with the Jones’s” to be jealous. So yes, that does drive the economy, right enough.  But what country (or world) do we want?  One that is all about having more “stuff” than other people, or one where we’re happy? There’s plenty of evidence that materialistic values lead to unhappiness.  So Boris is saying that he thinks everybody in the UK should pursue misery, but he thinks that’s OK because some (what he regards as the deserving ones, like him) will be happy.

 

Sadly, he’s wrong again.  The limited numbers of rich will be wealthy right enough, but unhappy because they don’t have as much as somebody who is slightly richer.  The person who can have a personal jet and a yacht is miserable because they can’t afford their own island as well, the person with the island can’t afford a huge art collection as well, the person with the art collection (apart from being miserable because their personal life is in the toilet) can’t afford their own planet.  The moderately rich desperately want the stuff the very rich have, and the poor would just like to have something to eat, because all their money has gone on having things that the moderately rich have.  Nobody is happy because all they think about is what they want.

 

Remember, want means not just “I’d like”, but “I’m in want of” = I don’t have.  So you can be in want of food, shelter, friendship, things that are really important. Being in want of a home cinema system or a new BMW is really not up there in the top ten in the “I want” stakes when you look at happiness.

 

And Cameron, whom I understand Boris wants to supplant, did start the promotion of “happiness” (by reinventing the wheel, ignoring all the research and appointing his own pet economist who knew nothing about it to measure the concept).  Of course, Cameron (who had the same sort of education as Boris, and who has had the same sort of opportunities to get rich – see Outliers) has messed that up by ignoring the start that he made as well as all the research that’s out there.  So obviously Boris isn’t alone in being a very limited thinker, despite having the best education that money can buy.

 

But if Boris were to have a think about it he might (if he really is smart) realise that happiness isn’t actually linked to material wealth.  And he wouldn’t even have to think too hard, just read Stumbling on Happiness by Dan Gilbert.  That gives a very nice explanation of how we keep that drive to compete going, the drive that makes us all tense, unhappy and obsessed with material goods.  But, as Dan Gilbert says (and Boris could learn, if he’d just shut up long enough), keeping on firing up the economy by encouraging greed, materialism etc. is fine if the only thing you want is a thriving capitalist economy. In fact, it’s essential. If people, in sufficient numbers, start thinking “hang on, I don’t want to do this, I’d rather enjoy my life and be happy, who cares if somebody else has a new car and I don’t, good luck to them”, the economy tends to stumble.  The people get happier, but if they are happy and content they aren’t obsessed with buying things.  And that slows the economy.

 

Personally, I’d rather people were happy, and the economy didn’t grow as fast (or at all).  And everybody I’ve ever met feels the same.  But Boris is promoting a growing economy, although that also means he’s promoting a miserable country.

 

So again, his ignorance means that what he’s saying is handy for promoting a point of view, but that point of view isn’t as self-evidently right as he thinks, and it’s actually wrong in the opinion of most people.

 

And the big impact of Boris’s mistaken understanding is on the individual.

 

A week after we had headlines about pervasive and serious debt and we’ve got record debt levels, we have headlines about Christmas shopping breaking records

 

Nobody seems to have tied these together 

 

But if people are already in debt and are spending money at record levels, what do you think is going to happen to debt?  Will it go:  

a) up,

b) down,

c) stay the same,

d) don’t know as I’m the average politician and I have no idea about finance or anything else,

e)  don’t care as I’m Boris.

 

So my advice to you, whether you’re in debt or not, is don’t spend at record levels.  Ignore Boris.  Work out whether you actually care whether somebody else has something you don’t really want anyway, can’t afford and that will cause you sleepless nights worrying about how you’ll pay for.

 

Get your own money under control by working out what really matters to you.  Then perhaps campaign for a few politicians to start talking sense and taking an interest in the Nation’s well-being and happiness, rather than only in its economy.

 

And if you speak to Boris, tell him to stick to zip wires if he wants to pull a publicity stunt, that way, when it backfires (as everything he does appears to) it will only be him who gets hurt, not everybody else.

 

 

 

 

 

 

 

 

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Payday Loans

 

There’s lots of furore about payday loans.  They’re being blamed for causing debt and depression, being denounced in the House of Commons, the companies offering them are vilified in the newspapers.  

 

Now they are a really bad thing for just about everybody (except the companies offering them, who are becoming nearly as rich as bankers).  But honestly, are we making the right assumptions and asking the right questions?

 

The current thinking seems to be that nearly everybody (70% of the population who have massive debts, according to some screaming headlines, and barking politicians) is an idiot led astray by plausible crooks into taking on loans that they can’t handle.

 

Is it reasonable that the majority really don’t understand that when they borrow, they have to pay back? Is it reasonable that the offers (that have been shown to have an APR of, for example 4,000%) are really so alluring?  Is it reasonable that people don’t have any idea that with base rates of 0.5%, a borrowing rate of over 60% (let alone several thousand) is probably a really bad idea?

 

And shouldn’t we be asking why people keep doing this, when it is obviously daft, and why the loan companies can continue to make so much money with what is obviously a bad deal.

 

I got asked for a comment by the BPS, which they put up on site.

 

But for space reasons they had to edit the logic down.  So have a think about the points below, in the light of all the “we must cap rates”, “these companies are ruining lives” etc. headlines.  

 

Capping rates makes sense superficially, and all of the points of view expressed appear logical.  But they all ignore the psychological reality of human behaviour, and tend toward cliché and short-term thinking.

 

There is the statement from George Osborne that, “You’ve got to cap the overall cost of credit”.  Why have you “got to”?  If it’s compulsory, is Mr. Osborne going to put a cap on the costs of an unauthorised overdraft that, bearing in mind the fees and the fact that the charges can be incurred for being a single pound over limit for one day, can produce an APR of 400,000%? 

 

A limit of 4% a month (as is mentioned for Australia) suggests an APR of 60%, ignoring other charges (which could easily double that APR).  Is it theorised that somehow that is a workable rate for the average borrower and is therefore acceptable?

 

And the opponents are quite right, a cap will “restrict credit and encourage illegal lending”.  So is illegal lending at 1,000% worse than legal lending at 20,000%?

 

The question nobody asks is why?  Why do we think that a rate charged by a credit company is evil and the same (or higher) rate charged by a bank is acceptable?  Why is 60% (or even 100%) APR acceptable when base rates are 0.5%?  And the biggest question, why do people keep borrowing at any cost irrespective of common sense and why, therefore will restrictions on credit cause them to turn to illegal sources?

 

The fact is that even a 60% APR is going to cripple personal finances.  If somebody resorts to that, they clearly can’t get a cheaper rate from a mainstream lender, because the lender doesn’t believe they can afford to pay back the loan.  If they can’t pay it at, say, 8%, how are they going to pay it at 60%?  Nobody asks that question, but the obvious conclusion is that capping the rate at 60% p/a isn’t going to make any significant difference, it’s still going to result in financial disaster.  It might take a bit longer than at 3,000%, but it’s still going to happen.  So how does it help, except in the short term sense of making it appear that something is being done?

 

If you do ask why people still agree to pay those rates, some claim the driver is that people have lost jobs, suffered disasters etc. and therefore need the money, while others claim that they are work-shy and not prepared to save up.  The facts differ for each individual, but there is a common belief that, whatever the cause, people take out loans they can’t afford because they are stupid and don’t understand that you shouldn’t spend more than you earn. 

 

What it all ignores is that people generally know they shouldn’t spend more than they earn, and they shouldn’t borrow money at excessive rates.  But they still do it.  The principle reason they do is not ignorance of basic finance, it is ignorance of themselves and their motivations.  They want to have “things”, material possessions.  It might be a giant plasma TV, it might be a new mobile phone, it might even be something they really need, like food.  But we all tend to think that we “need”, a lot of things that our great-grandparents never heard of, like dishwashers, flat screen TVs, I-phones, etc.   We chase after material things, ignoring the fact that 40 or so years of positive psychological research has shown that these materialistic attitudes are linked to unhappiness, and having lots of “stuff” simply does not make you happy.

 

It would be more productive in the long-run to provide some “joined-up” thinking.  There are initiatives on happiness.  If these were integrated into the financial policies and a more psychologically valid outlook were taken what would result?  We’d start to educate people to the fact that having material things might temporarily make you feel one-up on the neighbours, but shortly the bill would come in and the neighbours will take out an even bigger loan to buy an even more expensive car, TV, gadget or whatever. Then we’re into a sort of purchasing arms race, with everybody spending money they don’t have to impress people they don’t like, by buying things they can’t afford.  That way lies bankruptcy and madness.

 

We could educate them to alternatives, such as people learning to set priorities for themselves.  Instead of buying things that they quite like, but don’t really need, they save their money for essentials.  They do the things (interacting with and helping others, using their skills, experiencing life etc.) that actually make them happy.  They spend their money to make themselves happy long term, instead of get a brief kick out of new “stuff”, followed by months of nightmare of paying for it and slipping further and further into debt.

 

But it will take a radical re-think of policy and an appreciation of psychological reality – people aren’t stupid, they just need some help to understand why they do things they know aren’t good for them and support to change their behaviour so that they can be happy, and financially secure.

 

And if that happens, the demand for high interest rate loans dies out, and the companies providing such loans go away.

 

Let me know what you think.

 

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What do you need?

 

I read a headline in the Metro the other day, “Families dragged into red by £140-a-month mobiles”.

 

It’s a reasonable article, about how the number of households falling behind on contract payments has trebled since the iPhone was launched six years ago.  Of course, that pretty much coincided with the economic crisis, but it’s probably true that the problem arises mainly from people buying contracts that they can’t afford.

 

The issue I have is that this is a symptom, not a disease.

 

I’ve been involved in a couple of discussions related to this recently.  

 

One was on a TV programme (it should air in December) about Christmas spending.  The point everybody wants to make is that, as the Archbishop of Canterbury recently said on TV, people “shouldn’t” be obsessed with having “things”.  But the fact is, they often are. 

 

The other was at a meeting for “Take Charge”, which is a consortium looking at financial education.  At the meeting, people didn’t only talk about products and skills in finance, they talked about “wants” and “needs”.  So they seem to have begun to understand that it isn’t just how that matters, it’s why and that the why is probably more important.

 

But the consensus still seems to be that the reason that people make bad financial decisions is that they don’t know, for example, that borrowing money at high interest rates is a bad idea.  I’m not convinced that most people are particularly brilliant, but I’m fairly sure that very few people are as stupid as the educators or the Archbishop think they are.  Most people know they “ought” to make sensible financial decisions, they know that spending more than they earn is daft and that they don’t really “need” lots of “things” – it’s just that converting the knowledge into action is difficult.

 

As you’ll know from other posts I’ve been pushing at the subject of financial education for a while. Things are looking up, since I have made contact with the PFEG through the medium of Take Charge and got a meeting booked with the MAS (which has already been postponed twice), but it’s progress! 

 

And it looks as if people (even those on TV) are beginning to understand that why is actually more important than how and that people need to distinguish between wants and needs.  

 

What they don’t seem to have realised is that simply telling people that they “ought to” distinguish between them doesn’t work.  Similarly, if you tell people that buying “things” that they want (like a super mobile phone) can lead to them not having the money for things they need (like food or mortgage payments) you aren’t revealing divine truth (sorry Archbishop, it’s really not in the “road to Damascus” class).  They know they should make the distinction, they just don’t know how to do it, or have the will to do it.

 

My idea is to help people to understand why it’s hard to do (because we didn’t evolve to make “logical” decisions like that), how to do it (you have to work out what you individually really value first, before you start deciding what is a want and what is a need) and how to generate the will (by knowing your values and hence having a good emotional reason to distinguish between wants and needs).

 

And I’d like to make sure children in schools get taught it too, because not too many of us will grow up to be able to buy everything we want, so sooner or later we all have to set priorities and decide what we really value.

 

That’s what the book is about. And it got some nice reviews recently as well (Association of Business PsychologistsForum for Business & Consumer Psychology).

 

It isn’t rocket science. I’ve had clients who had financial issues and thought that they were really careful with money.  And many were paying for massive Sky TV packages, gym memberships, club subscriptions and, yes, phone deals, who told me they budgeted for these things because they were “needs”.  And for some clients, some items really were needs.  But only some things were needs, and only for some clients, nobody needed all of the things they were paying for.  For the majority, the majority of those expenses were not in the “top 50” of things that they really valued or needed when we did some work on it.  And while something might satisfy a vital need and a real value for one client, it would do nothing at all for another client, but often a client who didn’t value it paid more for it than one who did.  People aren’t rational and having standard lists of what is a want and a need doesn’t work.

 

It would be great if people would start to pick up on the importance of values, of knowing why priorities are vital, of the relevance of knowing techniques for distinguishing between wants and needs, rather than assuming that simply knowing not to buy “things” or buying only “wants” (without a definition) is adequate.

 

And it would be great if lessons were given in this, both in schools and for adults (particularly if the Government and other bodies wanted to pay me to teach people how to run them, and use Taming the Pound as a textbook!)

 

But we’re getting there, slowly!

 

 

 

 

 

  

 

 

 

 

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Gambling

 

I got asked to comment for a piece on gambling in Men’s Health magazine.  Apparently increasing numbers of people are looking to gambling as a way out of financial trouble.

 

 Sadly, the magazine doesn’t hand out copies for free, so since they said it was great comment(!) I thought I’d share the gist of what I said.

 

There are three main reasons why gambling is a problem for people, apart from the fact that a “big win” gives them a buzz:

 

Conditioning:

 

Most people have heard of Pavlov’s Dogs. In psychology, it’s called “conditioning”.  You train people (or in that case, dogs), to produce a behaviour in response to a stimulus (like a bell ringing).  Some other famous ones were by Skinner, who got rats and pigeons to press levers, peck at coloured disks etc. The rewards, (either nice things like food pellets or the removal of nasty things, like electric shocks)  are called reinforcement.  And you can find out how powerful the reinforcements are by looking at “extinction”, which is how fast the behaviour stops when it isn’t being reinforced any more.


When you analyse all the different studies over the years, as happens in a psychology degree, you find that the most effective form of behaviour change in this field is to have a “partial reinforcement schedule”.  That means that instead of getting a reward (food, praise, an end to being Tasered etc.) every time the subject (rat, pigeon, human) performs the behaviour, you give them a reward only sometimes, and you make it a surprise rather than allowing them to predict what will get them a reward.  So they can’t tell if the 3rd action, the 20th, the 1,000th or whatever will get them the reward, or whether they’ll never get the reward again for that action.

So, slot machines are set up to give you a partial reinforcement schedule for the behaviour of playing them.  You get the money – (and more important the rush of winning) only some of the time, at unpredictable intervals.  Same with bingo, lotteries, and even games like poker and horse racing.  

And the whole thing is set up to make sure that you keep thinking that you’ll win “next time”, so you keep doing it.

 
Overconfidence that you’re “Special”

People are overconfident of their own abilities – there’s something called the “Fundamental Attribution Error” that humans have.  This basically means that we all think like this,

 

“If I succeed it’s because I’m great, if you succeed you were lucky.  If I fail it’s because I was unlucky, if you fail it’s because you’re a moron”.  

 

We go though life like that, try asking a crowd of people to tell you if they are better drivers than average and about 83% will say yes – then try to work out how 8 out of 10 can be better than average and work out what that does to the average!  

 

Or ask them about whether they are better in bed than other people (where even more will say they’re better than average!)  

 

We also have something called optimism bias, we look on the bright side.  So despite divorce rates going up to 50% or so we get married, despite business failures being at 95% in the first five years we start businesses.  Ask somebody getting married for the fifth time, they will tell you “this one’s the real thing” – nobody gives more than a “one in a million” chance that their business will fail.

 

We think we can beat the odds, that the problems that will defeat others won’t defeat us.  

 

That’s also why projects go over budget and over time, reports and PhDs come in late or not at all, people are late for meetings, we all think we’re more in control than we really are.

So naturally, the fact that nobody has won a jackpot on that machine for five years means that “it’s due” and that I’m going to win it. So I keep going.

And of course, that same optimism (plus some other stuff in our minds) means that we forget the huge number of small losses and only remember the one big win.  

 

That’s why bankers, traders, stock market “experts” etc. all talk about the time they nearly broke the Bank of England and fail to be able to justify their salary or their self-designed tag of “expert” if you look at their real performance and returns.  

 

They’ve forgotten the 2,000 trades on which they made at most £10,000, and on which they made a grand total of £350,000 in share value, while spending over £1 million on transaction costs.  They remember the big win, the £150,000 big hit in a day, and ignore the fact that the trading costs alone were more than their total profit, not even counting all the trades they did that either lost them money, or didn’t gain them anything.  

 

Anybody who keeps good records is almost certain to realise that they have lost by trading, but nobody keeps those records honestly or believes that they lose, it’s always “the other guy” that is a mug, the person you talk to is better than Buffet and Soros combined.  As in the old saying, if you play poker for half an hour and don’t know who the patsy is, it’s you – something bankers ought to remember!

 
Ignorance of statistics and probability

Most of us aren’t very good at maths.  It used to have to say on slot machines what the payout is.  There would be a plate saying – “payout 72%” or something.  So you knew that for every pound in, only 72 pence came out.  If there was a jackpot of £1,000, it would mean that about £1,390 would have to go in (and the slot machine company would keep the odd £390).  People still focus on the jackpot, not the fact that, on average, they’ll have to put in about £1,400 to win £1,000.

And with the lottery, if you ask people, “what are the odds of the numbers being 1,2,3,4,5,6” they’ll tell you “impossible”.  Actually it doesn’t matter what numbers you pick (I explain this fully in Taming the Pound – http://www.amazon.co.uk/dp/1848767528/ref=rdr_ext_tmb), 


“The odds are the same, just under 14 million to one against.  So whether you pick birthdays, astrologers predictions, your lucky number or 1,2,3,4,5,6, the odds stay at just under 14 million to one.  But we think 1-6 is unlikely, and therefore that our own numbers are relatively more likely.  And even though you can look on the lottery website and see that they actually distribute less than 70% as prizes (or else how could anybody get “lottery funding”), people still think they can “win” on the lottery.”

 

Summary


People get swept up in the big win and the reinforcement it gives them, they forget all the little costs and losses, they think they can control the dice, the balls in the lottery, the cards, the horses, that they understand the fundamental nature of the universe better than other people.

 

In fact they don’t have any control and they don’t understand the odds either.

And consequently, they gamble, and when they lose they just think that it has taken them one step closer to the “big win”.  And it might have done.  Except that probably 20 million people have taken one step nearer the big win, all of them have just paid out, but only one of those people is ever actually going to reach the big win, and you have absolutely no control over who that one person is, whatever you choose to believe.

The odd flutter on the Grand National, a couple of pounds a week on the lottery to give you a few hour’s pleasure thinking about what you’d do with the money etc. probably isn’t going to hurt you (but it still might, if you don’t actually have the money to gamble with).  But if you look at gambling as a way to solve problems – you probably need help.

 

 

 

 

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