Budgeting is often considered by many household consumers as a useful tool to control spending and manage money effectively.
Budgets are an absolutely necessary financial tool that ensures you stay in control of your expenditure.
A budget is a plan that ensure you:
Control your finances
Fund your current commitments
Make confident financial decisions
Meet your Financial objectives
Have enough money for future projects
In most cases, financial advisors and financial counselling institutions and literacy programs recommend that the first step to financial wellness is to set up a budget.
With the recent advancement in technology and mushrooming of Fintech companies, the number of consumers adopting budgeting and financial planning apps has more than tripled.
Consumers often budget with the aim of controlling their spending and saving money
While budgeting in advance is seen as a good practice to control spending.
A recent study conducted by Yuna Choe and Christina Kan shows that budgeting too early for a specific purchase may increase spending.
Consumers are frequently told to set budgets in advance, but budget depreciation suggests that budgeting too far in advance can be detrimental.
The pain associated with spending dissipates over time and can lead to an increased willingness to spend.
The findings showed that Consumers adapt to the reference point set by the budget such that, over time, the budgeted level becomes the status-quo spending.
As a result, the more time that passes, the lower the pain-of-payment from the budgeted amount, and the greater the willingness-to-spend.
The authors argued that as the temporal separation between budget setting and actual purchase increases, consumers become more willing to overspend because of what they term “budget depreciation.”
‘’Across a secondary dataset of real estate purchases, one field study, and two experiments, we find evidence that consumers who set a budget further in advance are more likely to overspend relative to their budgets.
This effect emerges for single purchase occasions rather than a category of purchases’’. The report read.
Budgeting for a purchase involves deciding to spend money, and this decision to spend money on a purchase can produce a hedonic cost, or pain, for the consumer.
What makes people to overspend even when on a budget
When budgeting for a specific upcoming purchase (e.g., purchasing a house), consumers typically do so in advance.
Many people assume that budgeting further in advance helps them to reduce their spending.
The research explores when and why budgeting early might have the opposite effect, and instead lead to higher spending.
Using real estate transactions, Yuna Choe and Christina Kan observed that as temporal separation between the moment of budgeting and purchase increases.
The willingness to spend relative to the budget also increases.
In reality, people may endogenously select the length of temporal separation according to factors that increase the willingness to overspend.
For example, consumers who have a strong preference for a product may be both more likely to start budgeting earlier for that product and to overspend their budget for that product.
Authors of the study proposed that overspending behaviour arises in part because.
Consumers feel less pain when spending money for which they have budgeted in the past long ago compared to money for which they have budgeted in the recent.
How to budget responsibly
The best way to budget responsibly is to connect your future self with your present self.
Researchers from New York University found that when subjects had a clearer vision of what their “future self” looked like, they saved more money.
Budgeting is about ensuring you control your spending in the present so that you will have enough money for the future.
Problem with most of us is that we usually have a really hard time connecting the future to the present.
Managing your money can also be challenging because we tend to underestimate our spending
Learning how to stop over spending your money is hard, but it is possible.
It takes time and dedication to stop overspending and reform your spending habits.
If you don’t know how much you take home each month and how much your expenses add up to, you will continue to buy what you think you can afford.
Only to realize at the end of the month that your bank account is not as deluxe as you thought.
Mostly, knowing how to stop spending a lot of your money has something to do with establishing the emotional and psychological triggers that cause you to spend.
If you eliminate those triggers, you will avoid the temptation and opportunity to over spend.
Reframing a budget as a spending plan can make a difference, but the mechanics can still be tricky.