Psychology behind Savings

Saving money is a fundamental aspect of personal finance, yet many individuals struggle to save effectively. While it may seem straightforward—spend less than you earn—there’s a complex interplay of psychological factors that influence our saving habits. Children growing up in a family that faces financial difficulty, tend to spend less money and save more. Similarly, the children of rich businessmen might not feel the need to save money as much as their counterparts. Income level, education, and access to financial resources play a significant role in determining saving behaviour. 

Read More: The Psychology of Money and Happiness

The concept of ‘Money Scripts’

Early exposures and experiences form our beliefs about money. They are known as the “Money Scripts”. There are 4 divisions of money scripts:

• Money Avoidance: Trying not to think about money because it equates with negative things like greed, corruption, or evil. 
• Money Worship: Money is the solution to all problems. Trying to spend money to buy happiness.
• Money Status: When the net worth is linked with self-esteem. Having a belief that people with wealth are happier than those of a lower socioeconomic status.
• Money Vigilance: Only spend what can be afforded. Financial health here may be good.

Harmful money scripts can eventually lead us to spend instead of save. This will still be the case even when we want to do otherwise.

Psychological Factors Behind Savings

Besides, psychological factors like Cognitive Biases play a vital role in saving. A cognitive bias is a systematic logical error. It is an unconscious prejudice that may negatively influence judgments and decisions. As for some of the cognitive bias types. These biases are associated with the innate limitations of human reason and judgment, thus, they occupy the heads of individuals when they consider, prioritize, and take action on saving opportunities.

1. Present Bias: The tendency to pick immediate rewards over the gains that are expected in the future is the underlying principle of the present bias. People generally value present satisfaction over far term achievement thus procrastination sets in when folks want to save for the long term.

2. Loss Aversion: Loss aversion denotes individuals strongly prefer the absence of losses as opposed to getting net gains of the same value. More than often people give too much weight to the loss as compared to the pleasure of gain thus making saving a requirement rather than a want to ensure safety against financial uncertainties.

3. Status Quo Bias: Status quo bias implies a preference for the status quo and a reluctance to change. The common tendency of human beings is to keep to their habits about finances making it difficult to apply new saving strategies even if they are more beneficial in the long run.

4. Anchoring Effect: The anchoring effect happens when people tend to unknowingly use early information (the “anchor”) for making later judgments or decisions. For example, anchoring of initial reference points, say income or expenses, may bias individuals’ perception as to what is the right amount of saving and their perceptions shape their overall financial decisions.

Learning about these cognitive biases can help people detect and combat their power on saving behaviour.

Human Emotions are important in savings too. Most people look forward to economic certainty and financial security in future. In case of uncertainty, individuals tend to use coping mechanisms driven by saving. This brings about a sense of control.

Let’s take an example, Raj is a middle-aged man in service. He is concerned about his post-retirement period. He devises a strategy and begins saving. In this case, Raj’s saving behaviour is goal-directed. Saving for meaningful goals, such as a dream vacation or retirement, can bring about a feeling of anticipation and satisfaction. This can in turn reinforce the positive saving behaviour.

Human beings are social animals. We are bound to influence others and get influenced ourselves. These societal norms and social influences impact financial decisions. They often end up copying the saving habits of those in their close social circles. Doing so also assures a standard of living along with a sense of belongingness. Thus, social comparison affects saving behaviour. 

Hence, Fear, anxiety, and stress can all impact our saving behaviour. Eg, Uncertainty about the future can lead individuals to hoard money instead of investing or spending it. This fear often stems from a lack of financial literacy and confidence in one’s ability to manage money effectively. It is also possible that the fear of unexpected expenses can drive individuals to prioritise short-term savings goals over long-term investment strategies.

How to Start Saving Effectively

Behavioral Economic Principles can prove to be beneficial to get out of the cycle and start saving effectively. What is Behavioural Economics? It seems like a complex word, but it simply explores how psychological factors influence economic decisions.

1. Nudging: It includes small, subtle interventions,  for eg. automatic enrollment in retirement plans or setting default saving options,  which can encourage saving behaviour. They might give individuals more control over behavioural biases and nudge individuals toward desired outcomes.
2. Mental Accounting: It refers to segregating funds for different purposes. This helps individuals to assign the resources effectively as well as resist the temptation to dip into savings for any non-essential expenses. 
3. Goal Setting: This means that, along with such a setting, individuals are supposed to have some realistic saving goals. It is because of this that individuals are allowed to discover their goals and gain the motivation to proportionally save towards the future.

Financial Literacy and Education awareness help people in their financial decisions and understand why they make them and the impact of the decisions, as well as forming good saving habits. It boosts people’s competency to analyse the chances and welfare of saving or investing in various plans. It gives importance to such analysis, which establishes critical judgement over financial products, services, and advice. It will help them realise fake ads and online scams that lead to losing their savings money. As well as they will understand what predatory practices can cause the loss of their savings money. Financial Literacy programmes do a good job of grounding individuals in critical thinking and discernment which in turn shields them from ill-advised and unguided financial decisions.

Read More: Top 10 books to read for Financial Independence in 2024

Practical Strategies for Overcoming Psychological Barriers to Saving:

1. Automate Your Savings: Try to have automatic transfers from your checking account to your savings account every month. This not only gets rid of urges to splurge on retail sales but ensures that the savings process is stable.
2. Create Specific, Achievable Goals: Draft your savings plan into bite-sized chunks that are reasonable. For example, the purpose of savings is a fund for a particular vacation a house down payment or retirement. Such objectives will provide high motivation and concentration.
3. Build Emergency Funds: Setting aside 3 to 6 months’ worth of expenses in an easily accessible account should be one of your primary savings goals. The certainty that you have access to some cash can help relax some of the anxiety or tension and offer much-needed peace of mind.
4. Practice Mindful Spending: Before getting the item, stop by and think over if you need it. Mindful spending is one of the skills that will help you spend less on things you do not need and thereby stop you from buying items on impulse thus you will have more money for your savings.
5. Seek Social Support: Sharing your financial goals with those who are close to you who have similar values and also encourage you in your financial plans may be the best way of having that kind of support. Being a part of the online community, which is centred on the personal finance topic, can be just as rewarding as joining support groups. These groups can enhance self-motivation and accountability.

Take Away:

Saving money is as much as having the right mindset as being able to have a good fiscal system. By recognizing the behavioural, emotional, social, and cognitive factors that shape our views and actions, we can develop the winning tools to break down these barriers and rebuild a more positive relationship with money. Automating savings, setting attainable targets, building an emergency fund, moneywise spending, and social support among other actions, will allow individuals to gain control of their financial future and ascend towards their long-term goals. Remember, there is a difference between needs and wants. Understanding this is the simplest key.