For as long as I’ve been reading about smart money management, “live within your means” has been the underlying mantra that, when uttered repeatedly and internalized, will result in a much more fulfilling life overall. By living below your means, you are sure to come out the end of each month with a net worth higher than the previous month’s, except for any poor investment performance. Building a financial future means eliminating debt and adjusting your wants and needs to be manageable within the income you receive.
Or does it? Laura Rawley argues that economists see this concept — the idea that one should only consume without acquiring debt — as limiting. Consumption smoothing is the idea that someone with an earning potential that resembles an upward slope could do better by enjoying life (and spending) early on rather than delaying consumption until a time when taking advantage of increased income would be less fulfilling. In other words, shop now so you don’t have more money than you know what to do with when you’re eighty years old.
There are obviously a number of faults with this approach. To name a few:
- Borrowing at a young age based on future income potential is risky. What if your income never hits that upward slope?
- Buying a BMW and going into debt now rather than a slightly used Honda Civic with cash could prevent you from making more meaningful investments.
- If you grow accustomed to living beyond your means now, unless you’re willing to make a significant change in attitude, your desires will just be greater later on, and your income will never catch up.
Nevertheless, there is a lot of value in the idea of enjoying life while you’re living it. You can’t put off all of your wants until later. The best option is to find affordable ways to handle the desires that may be beyond the reach of affordability, but lifetimes are relatively short when compared to the span of a culture.
Also, certain types of spending are likely to enhance your earning potential over time, and it is worthwhile to take some financial risks. Borrowing for a college education is often used as an example — but don’t forget there are ways to get a quality education without spending a lot of money. Personal preference and skills play roles — if everyone chose career and education paths based on likely return on investment, we might all be engineers studying in schools outside the United States.
In her article, Laura Rowley provides the example of a novice author who hires an editor, beyond her means, with the hopes of securing a deal for her first book faster. This is more of a business expense rather than the consumption, but it shows how taking a risk by laying out some of your own financing can be helpful in getting a jump start in a career. A better example pertaining to consumption could be the novice real estate agent who, in order to secure clients interested in more profitable locations, will buy accouterments that signal luxury, like expensive cars and fancy clothes. Again, these are still business expenses for which there is an argument that a little “investment” is necessary for financial success.
For most people, the concept of living within one’s means should be the general philosophy for spending, but balance is important. Life is short, so enjoy it. The more you can find ways to enjoy it that still allow you to live within your means, the more fulfilling your life will be now and in the future. If you’re in control of your finances, spending today to take advantage of the idea of consumption smoothing is not the worst thing in the world. One shouldn’t, however, use consumption smoothing as an excuse for making poor financial choices that ignore the consequences of increasing consumer debt.
Updated December 22, 2011 and originally published June 17, 2011.