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Why Don't People Manage Debt Better?

blogs.scientificamerican.com

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Re: Why Don't People Manage Debt Better?

#171

Post by phamilton »

DannoHung wrote: post #14
pilom wrote: post #8

This is showing that the Dave Ramsey "debt snowball" (pay off smallest debts first to get a psychological win and some breathing room by having fewer minimum payments) is a more effective way to get people to pay off many separate debts than paying off "highest interest rate first" even if it is less optimal for a rational actor. Just another case of people aren't 100% rational that many people have known for a while…

I have literally have people tell me that this is still rationality because it's the rational thing "for them". Like, the weirdest one was a cognitive psychology doctoral student. I mean, okay, if you can redefine rationality to be completely subjective, then sure, rationality is flargikriggendurf.

To be more mathy:

Option A (snowball): Total Cost if successful: $X Likelihood of success: 90% (just making stuff up here)

Option B : Total Cost if successful: $Y Likelihood of success: 80% (again, making stuff up)

If 80% * Y + cost of failure > 90% * X plus cost of failure, even if X > Y, then a rational actor will choose Option A.

Sure, the "chance of success" is subjective, but ignoring it doesn't make the likelihood of failure go away.

Re: Why Don't People Manage Debt Better?

#172

Post by Spooky23 »

pessimizer wrote: post #102
douche wrote: post #61

Earlier quoted context omitted.

It's pretty numb to use debit cards as opposed to credit cards, for various reasons. A.) You can't over-draw a credit card, and get hit with overage fees or bounced-check insurance, or all the other things banks do - particularly with the slightly nefarious way they often choose to order your transactions when they close their books. Particularly troublesome with businesses that put in a hold on your card, then charg…

A) Opt out of "overage fees and bounced-check insurance" which would be the problem here, not debit cards. Keep track of your own finances. B) Don't live check to check. Keep track of your own finances. C) And if you fail to do that once (because you're probably living check to check), you've nullified any free benefit you ever received. D) Horseshit. I had my card stolen by the Target breach, there were charges on i…

It's always better to have problems with somebody else's money when your contract scopes your liability narrowly. Even if I follow your advice and do A, B and C, D is still a problem that I need to deal with.

Case in point. I had a two-week hotel stay and facility booking at a resort on my AMEX. The hotel fucked up and double-charged me for the event -- to the tune of $20,000. Due to their obtuse bureaucracy and overall stupidity, it took two weeks to get the issue resolved.

In the debit card scenario, I'm stuck with a $20,000 liability immediately upon the hotel screwing up. I don't keep a five-figure balance in my checking account, so that's a problem until I notice that this event has happened. (Which I may not, because I'm on the beach enjoying my honeymoon and not checking my mail).

With the credit card scenario, I get back from the event, open my mail and discover a $40,000 bill instead of a $20,000 bill. Nothing is bounced, everyone is paid, nobody is angry at me. I make one phone call to AMEX, dispute it as a double charge, and my risk (and work) is done.

Re: Why Don't People Manage Debt Better?

#173

Post by rdrey »

dazc wrote: post #99
bradleyjg wrote: post #58

Earlier quoted context omitted.

I don't think such an absolute position is warranted. It's true that saving up for a big purchase will end up costing you less money than borrowing to pay for it and paying it back. But you will have the item purchased for less time. Suppose you have enough disposable income to pay for a new $1200 TV over the course of 12 months. In scenario 1, you save $100 each month. The bank pays you 0.5% interest. As of January…

> Suppose you have enough disposable income to pay for a new $1200 TV over the course of 12 months. If you don't have $1200 for a TV you shouldn't be buying it. It's not as if you can't buy a perfectly reasonable TV for much less is it?

Replace the word TV with 'first household car'.

Re: Why Don't People Manage Debt Better?

#174

Post by jmckib »

jakub_g wrote: post #56

A big part of Daniel Kahneman's "Thinking. Fast and Slow" is devoted to economic behavior and in general, people are not rational when it comes to money - in some cases risk averse, in other risk seeking. He explains a lot of studies on the topic. If you have some spare time, I recommend the book (though it's not an easy read, as it's very information-dense).

I've been meaning to read that. Did you end up getting anything practical out of it?

Re: Why Don't People Manage Debt Better?

#175

Post by dragontamer »

nmcfarl wrote: post #153
dragontamer wrote: post #91

Earlier quoted context omitted.

Now suppose you lose your job in Month 10. The TV-less person will continue not having a TV, and use those funds for emergency day-to-day living expenses as he (or she) gets his life back in order. You can even dip into your credit card credit line for an emergency. But the person who bought the TV on interest is in debt, has less credit to live off of, and only a TV to show for it. ----------- In either case, saving…

There’s a ton of comments on this article that I think are much more nutso. But this is the comment I’m going to reply to, cause people who keep emergency funds are probably open changing their mind via reason. Touching your 6 months emergency expenses fund is completely against the point. The reason you have this cash is for out of the blue, hit by bus kind of events. You need it when you least expect it If you take…

Well, its the reality of the situation.

A typial 6-month Emergency fund is somewhere on the order of $15k, depending on where you live. This is more money than the typical American 40 year old has saved up their entire life (including retirement accounts)

http://www.fool.com/investing/general/2015/05/17/americans-a...

If you manage to have $15k, and you are making a big purchase, do use it before you start using a credit card. Now of course, if you have $15k "Emergency use only" PLUS $5k "discretionary", then yeah, spend the money from your discretionary account first.

Re: Why Don't People Manage Debt Better?

#176

Post by rootusrootus »

taneq wrote: post #94
imgabe wrote: post #17

Anyone at a point where they are making monthly payments on multiple credit cards has already lost the debt game. People don't manage debt better because they have been marketed to and taught to use debt completely inappropriately. Debt should be used to purchase an asset that will appreciate or otherwise provide an income in excess of the interest payment on the debt. Full stop. That is how businesses use debt and t…

> Carrying a balance on a credit card is almost never an appropriate use of debt. One exception: Credit cards with those introductory "6 months interest free" clauses. Sign up for as many as you can get, with as large a limit as you can get. Max them all out on payments into a mortgage offset account. Just before the end of the interest free period, pay them all off again. (I've heard of this being done but I'd bet i…

Clever idea, but these days I think that would be tough to pull off. Most balance transfer offers come with strings attached, typically something like a 3% fee for taking the money. That is almost as much as the raw interest rate on my mortgage, and might actually be more than the effective interest rate (considering tax advantages).

Re: Why Don't People Manage Debt Better?

#177

Post by cynicalkane »

imgabe wrote: post #17

Anyone at a point where they are making monthly payments on multiple credit cards has already lost the debt game. People don't manage debt better because they have been marketed to and taught to use debt completely inappropriately. Debt should be used to purchase an asset that will appreciate or otherwise provide an income in excess of the interest payment on the debt. Full stop. That is how businesses use debt and t…

If you're going to go full economist, the correct use of debt is whenever the expected value of having something now instead of later exceeds the expected lifetime cost of servicing the debt.

So it would be very reasonable to take out a loan for a car or a house, especially with interest rates around 4%. It might even be reasonable to take out a loan for furniture or a TV, but fiscally responsible people will usually have enough cash to pay instead, so in practice most responsible people don't take out loans for TVs.

By the way, houses historically did not appreciate at high rates. The recent dramatic appreciation in housing prices in big cities is a giant blip in the data. You shouldn't bet on housing appreciating so well, and you shouldn't buy more house than you will use or rent. (If you think the increasing importance of big cities will automatically mean higher prices, ask homeowners in Tokyo how well that's been working for them.)

Re: Why Don't People Manage Debt Better?

#178

Post by pessimizer »

tomp wrote: post #124
pessimizer wrote: post #102

Earlier quoted context omitted.

A) Opt out of "overage fees and bounced-check insurance" which would be the problem here, not debit cards. Keep track of your own finances. B) Don't live check to check. Keep track of your own finances. C) And if you fail to do that once (because you're probably living check to check), you've nullified any free benefit you ever received. D) Horseshit. I had my card stolen by the Target breach, there were charges on i…

> A) Opt out of "overage fees and bounced-check insurance" which would be the problem here, not debit cards. Keep track of your own finances. How would that work? With banks in the UK, you can either say (1) let the charge through, in which case they will charge you "unapproved overdraft fee" or something, or (2) reject the charges, in which case they will charge you "unpaid transaction fee" and not pay the bill (whi…

You make sure that you have enough money in the bank to cover what you spend.

Re: Why Don't People Manage Debt Better?

#179

Post by icebraining »

grecy wrote: post #112
bradleyjg wrote: post #58

Earlier quoted context omitted.

I don't think such an absolute position is warranted. It's true that saving up for a big purchase will end up costing you less money than borrowing to pay for it and paying it back. But you will have the item purchased for less time. Suppose you have enough disposable income to pay for a new $1200 TV over the course of 12 months. In scenario 1, you save $100 each month. The bank pays you 0.5% interest. As of January…

In scenario 1, when you realize that paying so much money for a TV is nonsense, you can spend that money on something else, and/or stop going to work, or reduce work hours. In scenario 2, you're stuck going to work for the entire 12 months to pay off a TV that will be obsolete by the time you finish paying for it. Scenario 2 robs you of your choices, because you're making a promise of future labor. Scenario 1 leaves…

In scenario 2, I've had the choice of actually using the TV.

Re: Why Don't People Manage Debt Better?

#180

Post by pessimizer »

tamana wrote: post #128
pessimizer wrote: post #117

Earlier quoted context omitted.

You should be more aggressive, because I don't understand the point that you're trying to make.

He's saying that you could make $7 by investing your cash for 30days before paying the charge card.

You could lose a lot more than $7 by being a day late, and labor in maintaining a credit card has to be worth more than $7 a month.
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