Mental accounting is a term used to describe the way people budget separately for food, shelter, transport and other expenses. It’s as if funds are put in separate buckets and can only be used for the set purpose. Coined by Nudge co-author Richard Thaler, the idea of mental accounting is particularly interesting as it goes against the commonly held belief that currency is “fungible” (that one euro can be interchanged with another identical euro).
When petrol prices rise…
Research on the Brown University website explains how mental accounting can have big influences on household spending. Examining petrol price rises, Associate professor of economics Justine Hastings wrote that people typically changed petrol buying habits rather than cutting back in a different area of spending, such as food. The finding is inline with the idea of mental accounting.
“A clear pattern emerged,” the research said of petrol price rises. “People behaved as if they were much poorer, buying cheaper gasoline as if a $2 increase in gasoline prices had decreased their annual income by tens of thousands of dollars.”
Shall we cut back on dining out?
If food or petrol prices rise, it might pay to revise the household budget as a whole. It might be that savings can be made in other areas to help ease the pain of the price hikes.