Can People Really Change Their Financial Behavior?

I’ve been writing a lot lately about personal finances because it seems like every week another report comes out showing how ill-prepared people are when it comes to their financial situation. My friend James Osborne asked me if I really think people can be taught to live within their means. I do think it’s possible, but it people have to learn how to implement systems and change how they think about their finances.

In one experiment, researchers split a larger group of people into two separate groups. They asked half of the subjects whether they thought they could save 20% of their income. Only half of this group said yes. But when they asked the other group whether they could live on 80% of their income, nearly 80% said yes.

Another study looked at workers that were paid every five days. Researchers broke out their paychecks into six equal envelopes, one to spend each day, plus an extra. Even though it was the same exact amount, just split up differently than before, the savings rate increased fourfold simply because people viewed the 6th envelope as extra money, and were more likely to save it.

One of the reasons it’s difficult for some to live within their means is because it’s so easy to allow your spending to outpace your savings rate, even when you start to make more. Dr. Jim Dahle writes a great blog called The White Coat Investor that focuses on financial advice for doctors, but the majority of his advice is universal. In an interview last week he talked about one of the biggest aspects of being able to live within your means — lifestyle inflation. He said there are two types of doctors in the sixties — those who are rich or those who basically have nothing. It all depends on when (or if) they started saving. His solution is to live like a resident early in a doctor’s career for a few more years to jump-start your finances:

Now, a typical medical student graduates from medical school with all this debt.  About $200,000 is the average right now of people that came out in the last year.  And then, for three to five years as a resident, they’re making $40,000 to $55,000 a year. And what I tell them to do is when they finish residency, for two to five more years, keep living on that same resident salary, spending $40,000, $50,000, $60,000 a year. Maybe give yourself a little bit of a raise. But if you come out of residency where you were making $50,000, and now you’re making $200,000 or $250,000 a year.  If you can just keep your lifestyle the same for a few more years, you can take the difference between those salaries, pay off all your student loans, jump start your retirement savings, save up a down payment for that big doctor house you want, and all of a sudden, your finances are on easy street just five to ten years out of residency, whereas far too many doctors just grow straight into their income.

Being content with your current standard of living is probably one of the best ways best ways for people to save more money, which can be supercharged when you start making more as your career progresses. I’m also a fan of saving a certain percentage of your raise every year. A good rule of thumb is to make yourself save at least half of every raise each year and enjoy the rest.

There are a number of little tricks like this you can implement to try to save more, but it’s impossible without a long-term system to make it repeatable. Trying harder to save more or pay your bills on time is not going to help. You need to automate these tasks to make them stick.

Living within your means is also not something you can do all at once. You can’t go from sitting on the couch all day to running a marathon. It’s going to be difficult for someone to go from saving nothing to saving $500/month. When you set huge goals it’s much easier to give up on them because they seem so impossible when you fall short right out of the gate. But if you start small, say saving $50-100/month, you can slowly build up to your ultimate goal and spread the pain of loss aversion over time.

There will always be certain people that either aren’t able or willing to live within their means. For everyone else, I think it’s possible, but not without the ability to build financial systems for yourself, keep your lifestyle inflation in check and re-frame how you think about your finances.

The White Coat Investor: Investing for Physicians (The Lange Money Hour)
Why Smart People Make Big Money Mistakes and How to Correct Them

Further Reading:
How Framings Affects Investment Decisions & Outcomes
Stressing Out About Money
“I have a high tolerance for repetition”

Now here’s the stuff I’ve been reading this week:

  • When investors try too hard to get things right (Bason)
  • Maybe the baby boomer generation wasn’t so obvious (Morgan Housel)
  • Go through your fund selection process with a bushwhacker (Kathryn Cicoletti)
  • Diversification is actually working (Reformed Broker)
  • The relationship between stock and bond returns (Econompic)
  • How advisors can capture business from millennials (Convergex)
  • 5 retirement planning issues to consider (Aleph Blog)
  • A great list from Finance Twitter on the worst rules of thumb about the markets (Economic Musings)
  • Why self-reflection can be so painful and enlightening (Research Puzzle)
  • Human innovation is winning (Prag Cap)
  • 9 money myths experts wish you would stop believing (Boomer & Echo)
  • Also, check out yours truly in the New York Times this week in a piece about the 60/40 portfolio (NY Times)



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Discussions found on the web
  1. innerscorecard commented on Apr 16

    I was able to change my financial behavior completely, but it was hard. It wasn’t a matter of simply changing this one aspect of life, but was tied into a change of my entire worldview. Maybe that’s evidence of how hard it is to do, and why most efforts to get people to save more will fail.

    • Ben commented on Apr 17

      That’s true, you have to be willing to buy into a philosophy otherwise it’s never going to work.

  2. Courtney commented on Apr 17

    Great article! I have found that one of the best ways to save for us in the beginning was to get the money out before we saw it. If it was there we were tempted to spend it. If it immediately went into savings we only grabbed it when absolutely necessary. Then at the end of the month it was tranferred to more long term savings. That was our first step. Now we try to see how much we can actively save each month on top of what we skim off the top to start with.

    • Ben commented on Apr 17

      It’s amazing how powerful the while pay yourself first tactic can be. It’s a very simple piece of advice, but it really is the key. One of my favorite ways to improve your finances because once you’ve committed to saving on a periodic basis right out of your paycheck or checking account you don’t have to feel so guilty about spending the leftovers because you’re already ahead of the game.

  3. Grant commented on Apr 17

    As an aside, the other interesting thing about doctors (and probably other professionals) is that they are overconfident, and think that they can do well at investing – beat the market etc. There is also an intellectual failure. They are quite familiar with the literature in their chosen field, but are not familiar with the financial literature. So, in general, this makes doctors terrible investors.

    • Ben commented on Apr 17

      Good point. I hear about this all the time from advisors. It’s difficult for intelligent people to admit they don’t have what it takes to succeed in another arena. Same thing with engineers. They all want it to be scientific but the markets don’t work that way.

  4. Mark Zoril commented on Apr 17

    I have certainly observed over the years how many of my clients are able to change their behavior. Some of them need to be jolted by an event such as unemployment, an unexpected bill, etc. Others can actually have the sense of purpose necessary to do it on their own. But it certainly can be done. What is nice to see is how gratifying it is for the people that are able to do it and then maintain the behavior going forward. They feel very liberated by it.

    • Ben commented on Apr 17

      Yes, it’s unfortunate that people sometimes need to have that rock-bottom moment before turning things around, but that’s how it works for many. Glad you have witnessed so many people change their habits over the years.

  5. The Friday Feast ~ The 17th of April | commented on Apr 17

    […] Can people really change their financial behavior? This was the question asked by A Wealth of Common Sense. I agree with him that they can, it just takes work, thought and perseverance. One tip that helped us starting out was saving immediately (ie: never letting the money go into our checking account). It’s much easier to save what’s not there to spend. […]

  6. Scott Boone commented on Apr 17

    To paraphrase an old saying, you need to “…save early, save often.” However, making paycheck by paycheck decisions of whether or not to save is a bad idea. Better to set up an automated savings transfer so that the decision is one step removed. Even better is an automated transfer to a retirement vehicle that is harder to withdraw from. Starting out small helps to make the development of this habit less painful, which can be increased with each increase in salary. Cash bonus awards are a little harder to manage as there is a temptation to reward yourself from the sudden windfall. However, I have always encouraged clients to bank the money for awhile before making any spending decisions as this will often allow the immediate spending urge to pass.

    • Ben commented on Apr 17

      Yup, I actually wish they would make it harder on people to withdraw from their retirement accounts. Even the taxes and penalties don’t do it for most. I’ve always thought people need to treat themselves every once and a while so somehow figure out a good split for a bonus between savings and carefree spending. But waiting is usually a good option too.

  7. AaronA commented on Apr 17

    My parents ALWAYS saved 10% of dad’s paycheck every week,, even when he was making $1.00 per hour. The most he ever made per year was $5,000, but they left an estate of $200,000 when they died. Their estate was more than my father made during his entire life!

    • Ben commented on Apr 17

      Wow. That’s a great story. Thanks for sharing.

  8. Gen Y Finance Guy commented on Apr 22

    Good advice from the Doc. I was admit when I graduated college to immediately max out my 401K contribution so I never got use to seeing that money.

    The % of income has gotten much smaller over the years as my income has gone up. It has been great to not even think twice about maxing out a 401K. I know many in my generation (Gen Y) are lucky to be contributing the 5-6% of their income to get the company match.

    Actually many older people barely contribute enough to get the match.

    I am constantly trying to convince people to raise the % they contribute.

    Between my wife and I we save 40-50% of our gross income every year. We only get to spend more when we earn more.


    • Ben commented on Apr 22

      That’s great. You’re almost certainly in the minority of people who have taken that path. Nice works. I agree that sometimes you have to grow into your savings rate and watch the % shrink over time.

      Also, a good incentive for you to continue to try to improve your future earnings power. Nice to hear a success story.

    • Gen Y Finance Guy commented on Apr 23

      I meant to write I was adamant not admit…stupid iphone

  9. Can People Really Change Their Financial Behavior? | Tamma Capital | Personalized Investing for Your Future commented on Jun 22

    […] Ben Carlson at the A Common Sense was recently asked if people could change their financial behavior and he answered yes but not without learning hot to "implement systems and change how they think about their finances." But beyond developing a system that would allow you to live without your means, a person has to make a conscious decision that this is something that they want to do and see the benefits in doing so.   Habits, Life Planning, Retirement & Wealth Planning […]

  10. john c commented on Jul 18

    Wondering if the type of financial system and controls needed to live below your means and therefore accumulate wealth will depend on personality type. I know there are studies on MBTI and income. Are there any studies related to MBTI and networth or approaches to saving? I am an INTJ and have never found much difficulty living below my means largely because I take a longer term view. It seems a lot of personal finance bloggers dole out similar advice but it just seems to me different approaches for different personalities. What’s your take? Any recommended books on the subject?