The way people work is changing. In the past, traditional benefits covered people against emergencies and disasters, but in a growing gig economy, those safety nets aren't always there. Let's look at the way work and savings have changed and what we can do to shift the landscape for financial stability.
What Is Financial Security?
For the very wealthy and the least wealthy, financial security lies in how much money you have. For the majority of the people in the middle, the answer is related to financial stability instead.
Financial stability is made up of four pillars:
• Savings: your liquid, fractional income. Savings allows you to handle a short term emergency without scrambling.
• Investments: part of your money working for you, growing into the future.
• Insurance: protection from a catastrophe that wouldn’t be covered by just your savings or your investments.
• Credit: bringing capital into your financial portfolio in the medium term when you need it.
Security just means having enough of each of these pillars, so everyone’s picture of financial stability will look a little different. However, removing one of these pillars increases the likelihood that a person will experience some measure of financial instability.
The Savings Crisis and Its Impact
You could have a compelling conversation about both insurance and credit, but let’s focus on the first two pillars: savings and investing.
You’ve heard since you were small that saving is essential, but why do we hear this advice repeated so often? The first reason is that we can’t predict the unknown. Saving part of your income helps reduce the impact of future surprises on your bottom line. Second, most of us don’t want to work until we die. Even if you don’t plan to retire in the traditional sense, you probably still envision a future in which you don’t have to hustle and grind until the very end.
The Federal Reserve calculates economic stability every year with a few different benchmarks based on a hypothetical “crisis” number. For example, how many families would be able to handle a $400 emergency by pulling together the funds quickly without severe stress on their stability? This is the current picture:
On the savings side:
• 40% don’t have a way to come up with $400 without borrowing or selling something.
• 70% would struggle with a $1000 emergency in the same way.
On the investments/retirement side:
• 21% of Americans have $0 saved for retirement including 10% over the age of 5
• 33% have less than $5000
• .04% have $1 million (the average recommendation for a comfortable retirement).
So what’s happening? One hypothesis is that we’re all just wasting our money on consumable goods. This is your typical avocado toast theory. This may seem like common sense, but the genuine truth is that savings and investments have become more difficult through our current infrastructure.
Wages have stagnated since the 1980s. We’re making less money for the same jobs than we were a generation ago, which lessens our buying and saving power.
Price Increases For Living Expenses
On top of our wages plateauing, the price for non-consumable expenditures has risen. Healthcare costs have seen a 76% increase since the 1980s with housing not far behind at 74%. Having at least some type of higher education under your belt to apply for entry-level jobs has become the norm, but education costs have jumped 100%, particularly in the area of higher education. These numbers reflect increases after accounting for inflation.
Smaller Savings Incentives
Even our money is working less for us than it did in past generations. Buying a 5 year CD in 1978 would have gained you 12% while the same CD today gets you just 3%. We just aren’t as incentivized to put money into savings.
What’s The Impact?
The first impact is on the family itself. Not having money saved leads to volatility in our day-to-day living. One small emergency could lead to one small loan, which does bring their finances back into the black… but only in the short term. The cost of paying back those loans could contribute to more substantial volatility later in a vicious cycle of borrowing and falling behind.
On a societal level, the impact manifests in increasing inequality. Those who are financially stable continue to improve their overall picture while those experiencing financial instability only grow more volatile. When you have greater inequality, it can lead to poorer societal outcomes like worse health outcomes. For example, when a society is more unequal, health outcomes grow worse for everyone, not just the poor.
Why Can’t We Fix It?
There are a lot of reasons, but let’s look at three important ones.
Technology and Self Control
Our brains have fundamentally changed with the advent of our technology. Short term outcomes are incentivized at far greater amounts than long term ones. We have to overcome those addiction centers in the brain concerned with tech to focus on the long term.
We have so many more choices, but that’s not necessarily a good thing. Information isn’t always trustworthy, and with the proliferation of technology, there isn’t a high barrier to ensuring that your information is reliable.
The neural response to stress can limit your ability to make long term decisions so long term poverty could change your fundamental brain chemistry. Even short-term poverty can trigger this stress response, altering the way you make decisions when you’re experiencing financial volatility. It’s based in our core and comes from a time when we needed to survive short-term emergencies (lions chasing us in the wild, for example).
If you’re experiencing a survival threat, you aren’t necessarily thinking about the future. No stopping to gather berries for later when you’re running for your life. This carries over to our current stressors. Struggling to put food on the table each night short circuits our ability to put money aside for the future.
All of these things make it difficult to change the reality of the savings crisis. It’s only in the last few years that we’ve begun talking about how to improve our current course at a societal level.
What Do We Do?
One of the ways we shift our crisis is by using Behavioral Economics. It unites the real psychology of the brain and decision-making with the financial model of Economics. Our financial modeling has to change because cognitive biases must be accounted for in how we incentivize our goal of increasing long term savings.
One basic principle called a “Nudge" is a method of positive reinforcement that allows people to be directed towards a goal. Nudging should be a suggestion, not a mandate, and free of manipulation.
So how do we use Nudge theory in a way that maintains free will? Going back to the beginning of the article, we know that institutionalized circumstances bear some of the responsibility for the savings crisis, so a concept called Choice Architecture could be very effective. Choice Architecture builds a framework around which it’s easier to make those good decisions about savings.
How Catch Is Responding To The Crisis
Catch uses Choice Architecture to create our products. For example, automating savings is one way to encourage long-term savings, but one of the biggest frustrations for automating is that automation is based on time. If you have regular paychecks, having savings pulled out of your account every Monday is great, but if you’re a freelancer, you may have one Monday where you’re saving only 1% of your balance and then overdrawing your account the next.
Catch bases savings instead on the presence of a paycheck. By detecting when you have a check come in, you can pull a percentage of the total whenever you have it (automation). It’s automatically divvied for you (reducing choice overload) and builds stability that allows you to make better long-term decisions (saving more).
Shifting The Outcomes
Building better choices within the savings crisis is a vital part of helping people save money. The new safety net should be affordable, accessible, and effective to counteract the way both institutionalized barriers and lack of traditional, employment-based incentives have steadily decreased savings and investments.
Catch is dedicated to that shift through our software, and we’re ready to help you build your pillars of stability. Sign up here to get started or take a look around and explore what we can do for your finances.