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​​​​​​by Meir Statman, Ph.D.

Meir Statman, Ph.D., is the Glenn Klimek Professor of Finance at Santa Clara University and author of Finance for Normal People: How Investors and Markets Behave​. His research focuses on behavioral finance.

A few months ago I was speaking at a conference about the mental obstacles underlying the “consumption gap” and how financial advisers can help clients overcome them. The consumption gap is between people’s actual consumption and potential consumption made possible by their wealth. In the February 2016 Journal paper, “Spending in Retirement: Determining the Consumption Gap​,” Chris Browning and his co-authors found consumption gaps among people with median financial assets, not only among the wealthy.

Adviser questions following my presentation were not about how to help clients find joy in spending their ample assets on themselves, their families, and the needy. Instead, they were about the “retirement crisis” and the need to encourage people to save more and spend less.

In truth, the drumbeat of “retirement crisis” is much too loud. The 2017 Vanguard research paper, “Retirement Transitions in Four Countries​,” by Anna Madamba and Stephen Utkus, reported that 55 percent of retirees believe there is a national retirement crisis, but only 4 percent describe their own retirement situation as a crisis. These researchers also reported that 90 percent of recent retirees are able to spend freely, within reason, or cover needs with some discretionary spending; only 10 percent said that they are on a strict budget.

We should distinguish among three groups: one lives in true poverty, another in self-induced poverty, and a third lives just right, spending money but not wasting it. Advisers likely have no truly poor among their clients, because the poor have too little to qualify. They have many more clients who suffer self-induced poverty.

A number of advisers approached me after my presentation, telling me about widows who splurge irresponsibly soon after their husbands die, and the dangers of giving adult children money without asking them to pay it back.

Lessons Learned

More recently I wrote an article in The Wall Street Journal about the mental obstacles facing us as we transition from saving to spending (“The Mental Mistakes We Make with Retirement Spending​”). I have learned much from people who posted comments or sent me emails. These lessons can help advisers improve their practice, benefitting their clients and themselves. They led me to wonder if advisers fail to see the self-induced poor because they are among them.

Here is a story of a so-called “splurging” widow: “My husband was reared by extremely thrifty parents who survived the Great Depression and WWII and through hard work and frugality bordering on stinginess (all Christmas gifts came from the Salvation Army) accumulated a very comfortable nest egg. They passed on to him their fiscal philosophies and my husband absorbed them like a sponge.

“My husband handled our finances. Once he died and I took over the finances, I was amazed at how much money we had. I shall have to work very hard to spend all of it, but I plan to give it my best effort. In the two-and-a-half years since my husband died, I have been to Africa and made three trips to Europe. I have already booked trips to see lowland gorillas in Rwanda and Uganda, snow monkeys in Japan, penguins in Antarctica, and ride a horse across the Mongolian steppes. These trips were booked after my doctor told me that based on her patients, 80 is the age at which people lose their energy and enthusiasm for traveling. I am attempting to get in as many trips as I can before hitting that mile marker.

“I have also made many donations to local charities and plan to set up a trust fund for a friend’s grandchild who has Down syndrome and would otherwise become a ward of the state when his hand-to-mouth existence parents die.

“My husband never reaped any benefits from his saving habits and only received three months of Social Security before dying. May others escape his fate.”

Is it possible that advisers empathize too much with miserly husbands and too little with women set free by widowhood?

Mental Tools to Manage Saving and Spending

We tackle the saving and spending task with the mental tools of framing, mental accounting, and self-control. We frame our money into distinct mental accounts, mainly “capital” and “income,” and set self-control rules of saving and spending. Income includes salaries, pensions, interest, and dividends, among other income sources. Capital includes houses, bonds, stocks, and other investments. Self-control tools include automatic transfers from income such as salary, to capital such as IRA and 401(k) accounts, and automatic reinvestment of interest and dividends into mutual fund accounts, and the rule of “spend income but don’t dip into capital.”

People who are fortunate to earn good incomes during their working years and employ these mental tools successfully accumulate substantial savings. But these useful mental tools can turn into obstacles in retirement when income diminishes and it is time to dip into capital. One extremely wealthy man, a retired insurance company executive, wrote in response to my Wall Street Journal article: “I’ve struggled with boundary issues between income and capital. I’ve actually taken on a couple of board of director assignments so that I feel justified spending for what I consider extravagant.”

Self-Control Helps

Self-control is not easy to muster and some fail to muster it at all. Wants for spending it all today overwhelm wants for saving for tomorrow when self-control is weak. National Football League (NFL) players enjoy very large income spikes that amount to substantial wealth, but wants for spending today often overwhelm wants for saving for tomorrow. Bankruptcy filings of many NFL players begin soon after the end of their careers.

Circumstances, especially poverty, can undermine self-control, breeding scarcity and narrowing options. These overload people’s cognitive and emotional resources and hamper saving, job performance, and decision-making. Poverty is regularly exploited. The most profitable American credit card consumers are those on the verge of bankruptcy.

Some people are savers by nature and nurture. The “big-five” personality traits psychologists discuss are conscientiousness, neuroticism, extraversion, agreeableness, and openness. Conscientiousness is the trait most closely associated with self-control. The retired insurance executive went on to write: “The points on conscientious saving hit the nail on the head. I grew up as one of nine children of Depression-era parents. They always stressed education, achievement, savings, and marital happiness over satisfying urges for material things.”

Excessive Self-Control Harms

Self-control can be excessive. Indeed, excessive self-control is as prevalent as insufficient self-control. Excessive self-control is evident in the tendency to spend less today than our ideal level of spending, driving tightwads to extremes beyond frugality. The prospect of spending money inflicts emotional pain on tightwads even when it might otherwise be in their interest to spend.

The interplay between emotion and cognition is evident in functional magnetic resonance imaging (fMRI) of people who see a product followed by its price and then are asked to decide whether to buy it or not. Seeing the price causes greater activation in the brain’s insula among people who decide not to buy the product than among people who decide to buy, (the insula being the region associated with painful sensations such as social exclusion and disgusting odors).

Another reader wrote: “What if the enjoyment is in the saving, and the pain is in the spending?” And another shared: “Every so often there are articles of people who have accumulated vast wealth relative to their lifetime income, and when they pass at an old age and people find out they feel sad for them that they lived frugally and never spent it on anything. I sometimes think they are missing the point. The total enjoyment for that person was in the saving and living miserly and frugally and well below one’s means. To a certain degree, I am that person.”

Moreover, excessive self-control can induce people into a mindset where spending is what irresponsible people do, reflected in the reader statement: “I’m saving now because good, admirable, upstanding people sacrifice their current standard of living to save, save, save for the future.”

We Spend Less as We Age and Die Sooner than We Hope

Concern about running out of money is regularly exaggerated in inflated estimates of life expectancy. Social Security tables indicate that, on average, only one in 10 of today’s 65-year-old men will live to age 95. Yet one reader wrote: “With discoveries in biotech rolling out of labs in droves, we may have reached a technological tipping point as regards life expectancy. I think todays’ 60-somethings will live to be 100 easy, maybe 110, and their children will probably make it to 150.” Reality, however, is still some distance away from the labs. The oldest-in-the-world woman, who was Italian, died in April at age 117, followed by the oldest-in-the-world man, who was Israeli and died at age 113 in August.

Moreover, older people spend less, in large part because physical limitations make them less able to spend and because they are less inclined to spend for personal reasons. According to the 2016 C.D. Howe Institute paper, “How Spending Declines with Age, and the Implications for Workplace Pension Plans” by Frederick Vettese, spending at age 84, adjusted for inflation, is 23 percent less than it was at age 62 among college-educated American couples. Spending on movies, theatre, opera, and concerts declines by more than 50 percent between the ages of 60 and 80. Spending on hearing aids, nursing homes, and funeral expenses increases by more than 50 percent.

One reader wrote: “Lots of people lose a spouse and do not travel or vacation much because they are by themselves. They have enough money but just do not go anywhere or do much. They have lost their best friend and have not found a second life after losing their spouse. So they sort of mope around and just do not do much. It is really sad. I know a few people in this situation and have tried to help, but there does not seem to be much you can do.

“We lose not only spouses, but friends; couples we used to dine or travel with; same-sex individual friends we used to golf or shop with. Suddenly we’re left to do those things alone, or not do them. Balance, while we have the resources to seek balance, is important to a fulfilling retirement.”

Spend Your Savings on Yourself, Your Family, and the Needy

We need not feel guilty about spending our hard-earned savings on ourselves. As one reader wrote: “During my career I was a very conscientious saver and investor. I always maxed out my 401(k) contribution and put a large percentage of my salary and bonus into a deferred compensation program. I have had a difficult time changing my mindset from a saver to a spender. This article helped me make that mental transition. The first thing I did was to go out and get fitted for a new set of Ping golf clubs and I didn’t feel guilty about it!”

Some people derive no pleasure from spending on themselves. Another reader wrote: “If one has never derived pleasure from material things, why would that change in retirement? A cup of coffee and a walk on the beach at dawn and I’m happy. The psychic income from being over-saved has value.”

I empathize with this reader. I, too, like a cup of coffee and a walk on the beach, even if not at dawn. But why not share “over-saved” money with family and the needy? One reader who has learned the lesson wrote: “I learned from my mom that the greatest joy in life is giving to your family. She would give something to all her six children, their spouses, the grandchildren, the great grandchildren, and all their spouses on their birthdays, anniversaries, Saint Patrick’s Day, Valentine’s Day, and no reason at all. If you want the closest thing to eternal life, try this.”

Another wrote about balancing spending on himself, his family, and the needy: “I am deriving pleasure from assuming the strategy of ‘I am through saving. Now I am spending.’ Judiciously, to be sure, but nevertheless with a view to obtaining satisfaction. Thus, my wife and I have made some long-desired renovations to our home, plan to schedule at least two major overseas vacations a year, supplement our children’s financial needs at a time when they need it and when I can see the result. I devote more time and financial support to charitable work. I continue to spend time exercising at a local athletic club, now free thanks to Silver Sneakers. I read more, and indulge in my love of classical music. All of this gives me significant satisfaction.”

Better to Give with a Warm Hand than a Cold One

One reader faulted me for failing to “address preserving capital for the next generation, which is a priority for some of us octogenarians.” But why not give money to the next generation with a warm hand than with a cold one?

I end with a story about the so-called dangers of giving adult children money without asking them to pay it back, a danger emphasized by some advisers who approached me after my conference presentation. One adviser stood aside, waiting until all the others had left.

“I burst out crying when you said ‘It is better to give with a warm hand than with a cold one.’” Indeed, she was crying when she spoke to me. It turned out that she lent her son some $27,000 for college tuition and now demanded that he pay her by the agreed schedule. She reasoned that paying by schedule would benefit her son, teaching him financial responsibility. But the son was now financially squeezed, at the beginning of his career, lacking even money to buy his girlfriend an engagement ring, and his mother’s demand soured their relationship. The mother had more than enough to forgive the loan without imposing any hardship on her, giving with a warm hand rather than with a cold one. I hope this is what she did that day. And I hope that she shares her story and lessons with her clients.

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