By E K Wills
Why do so many people have such huge credit card debts?
Financial gurus are always espousing the virtues of not going into debt so how is it that vast amounts are racked up on credit by people every month?
Years ago, a study done by MIT researcher, Associate Professor Prelec, showed that when two sets of people were asked to bid in an auction using cash vs credit, about twice as much bidding was done by the credit card holders than those with cash.
So even though people hate paying credit card bills more than paying parking tickets, people still spend twice as much on them compared to cash.
I first started reading about financial steps with Scott Pape, from The Barefoot Investor. He is Australian based so it made sense to me to approach at it from a local perspective. His serviette strategy of financial planning is simple to follow and basically says to get to the point of being able to cut up your credit cards.
Then a friend gave me the tip of listening to The Dave Ramsey Show, an evangelical financial radio show host from Nashville who talks about baby steps to getting out of debt. His advice also extends to disposing of credit cards. One of his podcasts mentioned the MIT study into consumer spending that revealed increased willingness to pay for things like ‘picking up the tab’ at dinner for a friend or buying more at fast food outlets when using a credit card.
So I wondered how easy it is to purchase items with cash now.
I went into the local supermarket and paid using cash. It reminded me of the paywave advertisement where a customer pays with cash and the streamlined process of paying comes to a halt and everyone stares at the cash-paying customer. I almost felt embarrassed.
Then I tried paying for a couple of bills online and realized how difficult it is to set up a direct debit using a debit card because it is designed for consumers to use credit cards. Basically, if there are no funds in a debit card, they don’t get paid so it is in their interest for you to sign up with a credit card. That way they get their money regardless of how strapped for cash you are.
Prelec talks about the psychology of spending and a moral cost involved when we buy things. By using a credit card, it lessens the pain of purchase because there is a reduced sense of exchange - no cash is handed over. The pain is delayed till the arrival of the credit card bill and accumulates the little pains into one. This explains why we hate paying them so much.
The trick is to learn from the pain and stop using the credit card.
But that requires more pain in the form of a budget - and restraint.
Many people find they need help to do this, a lot like needing a personal trainer to exercise. If so, look at one of these easy-to-follow plans by financial gurus.
Or try DIY.
And if that sounds all too hard to start with, try using cash instead of card for a month to test the theory first.
Happy saving!
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