[From Center forFinancial Inclusion blog, with P Mukherjee, 8 May 2013]
We recently completed extensive field work on people’s money management practices in India and Bangladesh, funded by The Bill & Melinda Gates Foundation. Our ostensible purpose was to develop simplified metaphors that express vividly how people think about money. You can judge for yourself how close we came to that by viewing (here) 10 different outputs. While our intent was to simplify, we ended up evolving a more nuanced view of how poor people think about money management (see here for a fuller treatment).
We echo Collins and Zollmann’s observation from their research in Kenya that poor people’s financial talk tends to relate much more to short term income security than to longer term goals or risks. Their main concern is that they want to have enough recurrent income to meet routine expenses. We unpack this into three interlinked concepts which, while by no means new, deserve more attention.
Shaping income to increase income security
Unlike organized sector employees, the mass market lives on a diet of irregular and often unpredictable income flows. From this, some larger routine expenses like school fees need to be met and emergencies need to be dealt with. Stuart Rutherford has placed lumping of money – the accumulation of balances into useful lump sums – as the key financial mechanism people use. What is interesting is that so often people use those lumps to buy a cow (or a rickshaw, or some merchandise for trading), whose main attribute is that it produces small daily income rather than being a good store of value. So they go from collecting a meager stream of small daily cash flows, to building a lump sum, and from there to creating more small daily cash flows. What pushes them on this cycle of sacrificing, lumping, and regenerating daily income – which we call income shaping – is the desire to change not only the size but also the timing and predictability of cash inflows. They see that as the key to providing for daily expenses, and building the routine of setting money aside regularly to build further useful lumps.
Income shaping is people’s preferred mechanism to achieve consumption smoothing: by building a regular income profile.
Routinizing goals and habit formation
Beyond shaping regular income, the other key financial concern of households is to establish an appropriate pattern of routine expenses. Setting a spending routine builds spending restraint through sheer force of habit (e.g. meat once a week, night out with friends once a fortnight). On the other hand, overly ambitious spending routines may set aspirations that are hard to achieve, and hence can increase the sense of privation and anxiety. This is not only about consumables: Larger, longer-term goals are more likely to be achieved if they fit within an assumable spending routine than if they have to be provided for on an exceptional basis.
One way to routinize a goal is to buy the item on credit. Once a TV is bought on credit, for instance, the TV goal is satisfied, and it is substituted with a clear the debt routine goal. Another example of routinizing a goal is investing in a daughter’s education (a routine expense), as this then reduces the amount of dowry that will be required (a large one-off investment) to secure the goal of a good marriage. Money will need to be set aside weekly or monthly to pay the TV installments or to pay for the daughter’s education, but there won’t be a need to fret about building and protecting a pool of assets.
Informally employed people without a fixed salary cannot live by hard and fast spending rules; instead they try to live by routines. Routines create automaticity in spending decisions; they define needs, as distinct from wants.
Fuzzy goals, proxied by instruments
The amount of regular household income limits how many goals can be routinized. There is still an opportunity to achieve other goals by saving on more sporadic or unreliable components of income. We found that people who are building up savings typically have a surprisingly loose idea of what they might use them for. Stated spending goals tend to relate either to concrete, smaller-ticket, recurrent expenses (food rations, school fees, etc.), or much longer term, aspirational, and largely unquantified status markers (the eventual wedding for a young child, land, house, etc.). It is relatively unusual to hear people say that they are working specifically towards a TV, a sewing machine, a latrine, or a bicycle.
In fact when you ask people what they are saving up for they are more likely to respond with what we’d call instruments (jewelry, goats) than with actual spending goals. These instruments act as a proxy for a loose collection of potential uses for the money – which we call a fuzzy goal. They will lock in a purpose in their minds only when something becomes urgent (rather than important: the child’s marriage is coming up!) or when the lump becomes large enough to start dreaming up what to do with it (to avoid temptation, allocate it!). This may be a psychological defense mechanism: why think up a goal, until it is reasonably within grasp?
So the picture that emerges is one where money management is focused on bringing regularity and routine to small inflows and outflows, rather than planning for large future goals. We often go to the field with our own baggage, expecting people to have clearly defined medium-term goals. They often don’t. In fact, do you?