A new study questions the long-accepted wisdom of setting a budget and sticking to it. The purpose of establishing a budget is to rein in one’s spending, but under certain circumstances, setting a budget does the opposite — and actually increases the likelihood you’ll spend more.
Personal-finance experts like Dave Ramsey, Clark Howard and Suze Orman all devote time on their programs and space on their websites stressing the importance of making and keeping a budget. Elizabeth Warren, the visionary of the Consumer Financial Protection Bureau and current candidate for the U.S. Senate in Massachusetts, laid out her 50-30-20 budget — 50% of income for needs and required expenses such as housing, food and insurance; 30% for “wants”; and 20% for paying off debts and saving — in the 2005 book she co-authored, All Your Worth: The Ultimate Lifetime Money Plan.
Could all of these experts be wrong about the need to budget? Are consumers better off winging it? Well, yes and no. Actually, mostly no.
At first glance, a new study from marketing professors at Brigham Young University (BYU) and Emory University gives the impression that budgeting can and often does backfire on the consumer. In six separate tests, researchers found that when consumers had a specific price in mind when shopping for a product, they spent more — sometimes 50% more — than those who entered the process without a specific budget.
The researchers aren’t really claiming that budgeting is a bad idea, though:
“We don’t mean to repudiate budgeting, because its positives probably still outweigh the negatives,” said author Jeffrey S. Larson, assistant professor of marketing at BYU’s Marriott School of Management. “But it’s important for consumers to realize how budgeting can affect our thought process and actually prompt us to spend more than we intended.”
So how, exactly, can setting a budget increase the likelihood of spending more? Say you’re in the market for a new TV. Some shoppers will set out with the mentality that they’re going to spend about $500 on the new unit, while others will search with no budget in mind. In surveys and tests, researchers found out that consumers who shop only within a specific price range tend to wind up paying more because, once an approximate price is settled upon, shoppers gravitate to products with more features, better quality — and higher prices.
On the other hand, shoppers tend to spend less if they look over their options with no specific budget. In tests, consumers who had a set price in mind were given the option of two TVs: one $18 above their target price, the other $18 below it. More than half (55%) picked the higher-priced unit. When consumers who had no set price in mind were given the same two options, only 31% selected the higher-priced TV.
Interestingly, the mind works in mysterious ways to justify spending more money: consumers who set a budget in advance, and who were more likely to pick the more expensive TV, were also more likely to say that the higher-priced unit was of much better quality than its lower-priced counterpart.
The smarter approach when shopping, according to the researchers, is to focus first and foremost on the product’s quality and features you want, rather than any specific price:
“We haven’t tested it yet, but our initial research would indicate that if you decide on the quality level you’re comfortable with, you will then focus on price and end up spending less money,” Larson said.
When making individual buying decisions, it’s probably better to focus not on what you can spend according to your budget, but what you need to spend in order to get what you want — with no set predetermined price in mind. Oh, and about the broader idea of budgeting, and setting monthly maximums your household won’t exceed, remember that while no system is perfect, “the positives probably still outweigh the negatives.”