In episode of Freakonomics from 10/3/2013, Steve Levitt and Steve Dubner discussed a listener question that I thought was a perfect articulation of my opinion concerning the studies that show that people tend to spend more when using credit cards in comparison with cash.
Steve Reta wrote: “This morning I was reading an article on how credit card spending is making us ‘irresponsible’ because it removes the ‘pain’ of paying with cold hard cash. I found this assertion to be untrue for those of my age group. I am 22 years old… For me and my colleagues, we have found that on the rare occasion we actually have cold hard cash, it actually feels almost like spare money. It doesn’t come up in our bank accounts since we’ve already either withdrawn it some time ago or accepted it as repayment for something else. It seems to be a widely accepted concept that credit cards are causing us to be poor spenders, but could it be that this so-called irresponsibility of credit cards is simply an issue for those who grew up using hard cash instead of hard plastic?”
He described this situation better than I ever have! In our money management system, the dollars that count are the ones that show up in our bank and credit accounts. When we do our month-end reconciliation, we don’t count how much cash we have on hand. It’s always a low amount and, like Steve said, had already been withdrawn (and therefore practically already spent in terms of our tracking) some time before or was a reimbursement. We still enter cash transactions into Mint, but they are so few and far between that they don’t make a big impact on our monthly spending.
I had the exact same thought as Steve, that these studies are probably done on diverse demographics of people and that the subset that has always used plastic as their primary mode of transacting (more likely to be young people) wouldn’t contribute to the general effect of higher spending with plastic over cash. In fact, for myself I know that I feel that cash is dirty and I want to get rid of it. I noticed this the last time I was at the farmer’s market (where I have to pay cash) – I saw how much money I had and kept adding pieces of produce to my purchase until I had spent as closely as I could to the amount of cash I had on me. I never do that with plastic spending at the grocery store – I just buy what I need and don’t try to increase or decrease the amount of the overall purchase.
I won’t go so far as to say I think every young person spends as responsibly with credit as with cash. I do think that cash provides an automatic level of accountability – when it’s out, it’s out! But for those of us who fastidiously track and budget and have always used plastic (debit or credit) I think the negative effect with credit should disappear or even reverse.
However, I haven’t conducted a study on this. I do respect empirical studies rather than people extrapolating based on anecdotal experience, as I have been in this post. After looking at a few papers, it seems that the conclusion cannot be as simple as “people spend more when using credit than cash,” particularly because the effect is neutralized for certain sub-groups. However, I haven’t yet seen behavior broken out by age like Steve suggested. Maybe I’ll look more into the various studies I can find for another post!
If you are wondering, Steve Levitt (the economist in the Freakonomics partnership) completely disagreed with Steve Reta. A discussion of mental accounting ensued. However, Levitt was kind of answering out of thin air (he starts with “I don’t know anything”), as is the point of these types of FAQ episodes.
Is your spending different between cash and plastic? What sub-group do you think would use credit cards as responsibly as cash, even if the general population doesn’t?
photo from Free Digital Photos