Dan Ariely and I Sit Down and Talk About the Behavioral Economics of Getting Out of Debt

Dan Ariely, a world recognized behavioral economist and I had an opportunity recently to sit down and talk about a number of issues and underlying unconscious choices that lead people in debt to make good or bad decisions in dealing with debt.

Dan talks about the mistakes the financial services industry makes and the best approach to controlling spending to stay within boundaries.

We also talk about bankruptcy stigma and the way people interpret the stigma and the life cost of that bias. Dan uses the example of the ‘Tragedies of the Commons’ as an example.

Dan suggests that if bankruptcy was called a second chance program or a second start that more people would turn to that solution because it would help them to get past the unconscious stigma that holds them back from making a the best and most rational decision.

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Steve Rhode: All right. I’m here with Dan Ariely. We’re here at Duke University. And of course, you are a world renowned behavioral economist. I’ll give you some–

Dan Ariely: Yeah.

Steve Rhode: [Laughter] And I followed your work for a long time. And I’ve read your books that you’ve written on the subject. And there’s been a lot of work about how people get into debt, about the things that drive them to spend or overspend. And I wanted to talk to you today about what are the issues that prevent somebody from getting out of debt.

Dan Ariely: So, first of all, some of those causes are the same. So one of the big issues is temptation. So you walk by a supermarket, a car dealership, whatever it is and they are designed to tempt you to take an action now. And if you think about the whole system around us is trying to fight for money right now not caring about what we will do in the long term. And we get tempted. And as we get tempted the system gets better and better at figuring out what temps us. 

So if you think about this, we call it hyperbolic discounting. The idea that now is more important than the future. That’s what gets us into trouble and it’s what gets us to have a difficult time getting out. So let’s think about this kind of example. Imagine I ask you what would you rather have, a half a box of chocolate right now or a full box of chocolate in a week. And imagine I had it here so you could look at it and smell it. And say half a box of chocolate now or a full box of chocolate in a week.

Steve Rhode: I’d fall for the temptation.

Dan Ariely: The vast majority of people do that. Now imagine if I push the choice to the future. And I say what would you rather have? A half a box of chocolate in a year or a full box of chocolate in a year and a week?

Steve Rhode: Now I can wait.

Dan Ariely: That’s right. This _______ is the same. It’s another half a box of chocolate for another week. The problem is that now you say I can’t wait. But in the future we are wonderful people. In the future we will save. We will exercise. We will not spend. We will take our medication on time. We will diet. We’ll do all of those, all of those things. So it’s the focusing on the present that get us into trouble and also makes it difficult to get out of it. In fact, there’s some economical analysis of why is it never rational to stop smoking. Because every single cigarette will not kill you. And it will give you pleasure. So should you stop? No, you should have one more cigarette.

Steve Rhode: Just one more.

Dan Ariely: And one more and one more. And if you do lots of those things it really undermines the future. The same thing goes about saving. Saving is really about the future. If you’re tempted about now–

Steve Rhode: Not having now so you can have in the future.

Dan Ariely: So, that, I think is the first thing. And the question is how do we fight it. We’ll get that. The second thing, which again is both the complexity and the reason is that it’s really how to think about money. If you think about money, you know, we make decisions with money all the time. And because of it we think we’re experts. But the reality is that we’re not. Money is really hard to think about. Every time you buy a cup of coffee you should intuitively think what else you could do with this $2.50. Really hard to do.

Steve Rhode: That would require a consciousness.

Dan Ariely: It would require a lot of computation. What are the substitutions now and in the future? Actually, we went to a Toyota dealership and we asked people what will you not be able to do in the future if you buy this car? People were shocked by the question.

Steve Rhode: There was no connection, was it?

Dan Ariely: There was no connection. What do you mean? Well, if you buy this car something would give. What? The most people would give us was if they buy a Toyota they can’t buy a Honda. They were substituting in the same timeframe and the same category.

Steve Rhode: They were buying regardless.

Dan Ariely: Well, they were just not thinking of the opportunity cost. Right. They were not thinking about if I buy this car it means four weeks less of vacation and 70 less book and 300 less lattes. That’s the interpretation of substitution. But the problem is too how to think about it. But money is all about opportunity costs. But opportunity costs is incredibly hard to think about because every dollar you spend could go to so many, many different things that you don’t really know what you’re getting. In fact, imagine the following. Imagine I was going to give you $10.00. How happy would you be? And imagine I spend $9.00 to buy you a gift. Can you think about something I would buy you that would make you happier–

Steve Rhode: Than the cash.

Dan Ariely: That’s right.

Steve Rhode: Probably the cash.

Dan Ariely: That’s the rational thing, right? But I’m not saying what would you take. I’m asking imagine something that would make you happier. So imagine a CD that I could buy for $9.00 that would make you actually happier than $10.00. Or instead of giving you $3.00 in cash, could you imagine I gave you a nice cup of coffee and you would be happier with that. It happens to a lot of people with lots of products. And the reason is that when we get money it’s so ambiguous. It’s so general. It’s can go to so many different things. If you don’t know exactly what the _______ value of this is. So we have two things. We have money is incredibly abstract, very hard to think about. And temptation is killing us all the time.

Steve Rhode: Do you think that people make the connection between debt and future labor? That they understand that in order to repay this they’re going to have to maybe work at a job that they hate or work harder?

Dan Ariely: I don’t think that people make this specific translation. Because you would need to make a very specific translation. You have to think, well, this would mean two more years of work or something very specific. If I ask you if you buy another car today what would give; it’s so hard to pinpoint. And the current economic situation, I don’t mean the recession, the economic flexibility makes it very hard to think about. We have credit cards and student loans and mortgages. Where exactly are we? What’s our financial situation? Really, really hard to figure out. If I gave you an envelope and I said this is your budget for the month, every time you would take $100.00 you would see it going away and you could calculate.

Steve Rhode: It would give me boundaries.

Dan Ariely: Yeah. But without it where are we? Where should you stop? How much loan is it okay to get? How is it affecting your life quality? And in fact, I think this is a big mistake of the financial service industry. Is that we assume that people can compute the opportunity cost of money, the impact of spending now on their future lives. But people can’t.

Steve Rhode: No.

Dan Ariely: And the tools we really need to create for people are tools that help them understand these trade offs. If you live in a bigger house now, if you buy a bigger car; what does it mean? What will you give? And if we could visualize it for people in a compelling way, I think it will change their behavior. But right now, they behave as if nothing will give.

Steve Rhode: Now people get credit. Creditors extend money to them. And they run into some unforeseen problem. Creditors say that is their problem. They took the money out. They’re solely to blame. But do creditors who use tools and techniques to entice somebody subconsciously to take their product; do they have any shared responsibility?

Dan Ariely: It’s not subconsciously. I mean, you can also think about mortgages. You can say if somebody took a bigger mortgage than they could reasonably repay, who’s fault is it? And in the real world you’re a big boy. You can decide what you do. And if you take the risk – but I think it’s not like that exactly. If I put here a plate of fresh donuts and I pump the smell of fresh baked goods into this room, odds are you’ll be tempted. And odds are you’ll be tempted even if you don’t want to. And I should accept some of the responsibility for that. And people who sell credit and give mortgages are trying to tempt people to take too much. And they’re successful. 

So I think that it’s a little bit unethical or non genuine to say, well, you took it. The other thing is that the more I do research on behavioral economics and human fallibility, the more I realize how difficult decisions really are. And I give lots of thought to doctors these days and hospitals. Where doctors have the same ______ and have to say I’m just a doctor. You’re the patient. Who am I to tell you what to do? I’ll just give you a list of papers to read and tell you that probabilities are of risk and you will make the informed decision. It’s crazy. It’s crazy. And doctors are pushing responsibility, partly because they have no time to spend with the patient. 

And partly because they don’t ______ the responsibility or the emotional responsibility. But the truth is it’s really hard to imagine that the patient in that current mind state, state of mind, could actually become an expert in medicine. And I think the doctors have fiduciary responsibility to actually recommend treatment. They are the experts. That’s what we go to them for. And I think in the same way, I think there’s fiduciary responsibility not just in exposing the information but doing the deal that is actually in the best interest of the client. Not doing that is actually betraying the principles of the profession.

Steve Rhode: When people have financial problems years ago, about 10 years ago, we did a study of clients and people that were suffering, could not pay their bills. And we found out that 40 percent of them met the definition of clinically depressed. So when somebody is in that state of mind, is it harder for them to make rational decisions?

Dan Ariely: So it’s a very interesting question. The answer is not clear. There are some results showing that people who are depressed actually see reality more correctly. All of us have what’s called and optimism bias. We think we’re a better driver than average. We think we’re probably better investors than average. We’re less likely to die of a heart attack. We are overly optimistic. There are some results showing that depressed people are actually more accurate. Now being more accurate doesn’t mean that they necessarily have a better life. 

It’s not clear that they would be the same irrational on all aspects. In the same way, there’s some beautiful results showing that people who have actual frontal cortex damage _______ can under some conditions make better investments. If you think about it, we have a brain and we have different parts of it that do different things. And some of them have both positive effects on our ability and negative parts on our ability. So sometimes when you knock one of them off people actually can make better decisions. I’ll give you one trivial example. One mistake people do in investment is they think about the past. 

You bought the stuff at $100.00. Today it’s $50.00. You think it’s going to go to $30.00 but you really don’t want to realize the loss. So you keep on holding it. Imagine you had no memory of what you did in the past. Right? All of the sudden you say, hey, this stock is at $50.00. I don’t know how it got there but ______ I want it. You would not feel attached to what you’ve done before. So it’s kind of interesting to think that some of our big cognitive assets are also liabilities in some cases.

Steve Rhode: Well, people that are struggling, one of the best solutions for them in a difficult situation is bankruptcy. But there is a societal stigma against bankruptcy and they automatically discount it as not an option.

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Dan Ariely: Some of my friends in banking have told me this stigma is going down. That it’s less and less.

Steve Rhode: Well, I think the more people are filing bankruptcy but it’s because their situations are worse.

Dan Ariely: But the question is is the value of the stigma lower.

Steve Rhode: I don’t think so.

Dan Ariely: You don’t think so. You think that, in fact, Citibank and AIG and all the big bailouts don’t make people more–

Steve Rhode: No, not the bailouts. The problem I run into is that more people are having to go bankrupt because their creditors are unwilling to work with them.

Dan Ariely: No, no. I understand that.

Steve Rhode: And the more that they drive people into bankruptcy, that I think affects the stigma a bit.

Dan Ariely: And, of course, if your neighbors declare bankruptcy you’ll probably feel okay about it as well. So the question is do people feel better about it? And if they feel better about this is it because of their neighbors or because of big, corporate bail out? And then the second question are people just have less access to credit because they have to.

Steve Rhode: Well, the problem that I see are that people in financial trouble, they are a great target for scam and fraud. And so people are out there making all sorts of grandiose promises, saying if you give me $2,000.00 I’ll help you out of your jam. And they are more attracted to that then they are of overcoming whatever bias they have against bankruptcy.

Dan Ariely: Yeah. So, again, I have some friends who are in the service of mortgages. And they say that they call people with good offers to refinance and they just don’t want to talk to them because they’ve been burned before. So I think it’s a terrible situation. Some people have the tragedy of the commons. You know the expression?

Steve Rhode: No.

Dan Ariely: So it started in Boston from the common garden. And it was a place where farmers would come with a cow. And as long as everybody had one cow there was just enough grass for everybody. But if a few of them had two cows they would have more money but soon enough there was not enough grass for any cow. Because the grass was depleting faster than it was growing. Eventually, the grass was not able to sustain any cows. And this is the general example of lots of public resources. When you fish, as you fish you deplete it and it grows back. If we deplete it too fast, there will be no more salmon. We deplete fish a lot. But for each individual farmer it’s good to over fish. It’s good for them in the short term.

Steve Rhode: Their individual benefit.

Dan Ariely: But in the long term everybody loses out. And I think that’s what lots of these, not just scammers, but lots of these banking products do. They take advantage of people in the short term. But then if somebody declare bankruptcy everybody loses. So I can tempt you with some loan. I can tempt you over here or over there. But eventually, you would fail and then everybody would suffer. You, including, with also your creditors. So how ______ reverse that system?

Steve Rhode: How do you get somebody past that point of ashamed and embarrassed to want to talk about their situation? It’s more personal to them than anything else. And see bankruptcy as an option and not be attracted by the lure of the quick fix?

Dan Ariely: So, first of all, I think the term bankruptcy is very unfortunate term. It’s like generic medicine. You feel like something is wrong. I think if we called it opening a new page. I think if we connected it with new year we might have a chance. People think very positively about second chance. Imagine if we called it a second chance program or second start. You can’t do it too many times but here’s another time you would do it. I think people might be more willing to do that. The word bankruptcy is a really bad, negative emotional term that might not do the _____. And the other thing that it’s really unclear what happened to somebody in bankruptcy. 

I think we need to create a different name and make it clear to people where they would be, what they would gain, what they would lose, what’s the calculus. So name, explanation of what it is. And then we have what is social proof. This is stuff that ______ wrote many years ago. Which is the idea that we define what’s acceptable and not acceptable by the behavior of others. And if you deal with the behavior of individuals or behavior of many, that the moment they are closer to us and more connected to us is more okay. So the fact that people feel ashamed about declaring bankruptcy, they don’t tell their friends; there’s a barrier.

Steve Rhode: Nobody has a party about it.

Dan Ariely: That’s right. But if you start getting people who declare bankruptcy to talk to other people–

Steve Rhode: They would feel better. So this is like the demonstration effect.

Dan Ariely: It’s tricky. Do we want more bankruptcies? I don’t know.

Steve Rhode: You know, that is an excellent question. Because what is right for the individual is not necessarily what’s right for the economy.

Dan Ariely: That’s right.

Steve Rhode: So where does the sacrifice come? Should people do what’s right for them or should they sacrifice for what’s right for the economy?

Dan Ariely: And by the way, the same think works for entrepreneurs. For people to open new restaurants they have to be crazy. It’s really not good for them but it’s really good for the rest of us who enjoy trying to eat different food. So there’s lots of cases where what’s good for society is different than what’s good for the individual. So I think with bankruptcy, we really have to think more carefully about under what conditions we would want who to declare bankruptcy. But we don’t have to go all the way there. We can also say what about the people who are just struggling. What kind of thing could they be doing? So one of the things we find is that when we leave it to people’s accord to behave as they want there’s a good chance they will fail every time. So what’s the solution? The solution is to create a habit that it outside of our hands. So think about something like automatic deduction.

Steve Rhode: Yes. It happens.

Dan Ariely: It just happens. At once you think, oh, how much do I want to save in the future? Let me do it and it’s outside of your hands. If every month at the end of the month you would get a form from your workplace that says how much do you want to save this month you’ll never send. You’ll never send the form back. Think about one time activities that would get the chain of future events–

Steve Rhode: To break the cycle.

Dan Ariely: The second thing is that if you think that money is very hard to do, what you want to try to do is an apples to orange calculations. So sometimes people talk about hard decision as if it’s comparing apples to oranges in English. But it turns out comparing apples to oranges is very easy decision. Have you ever seen anybody baffled by the fruits place? My goodness. My goodness. Which one is it?

Steve Rhode: Now if they were all apples.

Dan Ariely: But comparing apples to oranges, it turns out that it’s quite easy. What’s hard is figuring out whether an apple is worth $0.25, $0.50, $0.75, $1.50. So we fail when we map the expected pleasure from something to money. But when we think about things directly against each other, it’s actually easy. So if I say should you buy and your _____ is stuck at $150.00. Really how to figure out. But if I say what else could you do with the $150.00? What could you get? And would those things give you bigger or lesser pleasure? Now you can figure it out. So that, I think, is another thing, is to start making apples to orange calculation. Another trick, of course, is to start using cash. So it’s harder not to keep track. Actually, a very good method is to create multiple envelopes and create these envelopes for different ______. 

Actually, one of my friends, _____, did a nice study in northern India. This was a place where migrant workers come to work and to send their money back to their family. And as you can expect, in a place that lots of men come to work, lots of temptation appears as well. Alcohol, gambling, prostitution. And they end up spending much more of their money on those things. So what _____ did in one experiment, he gave people the money they would get every week in multiple envelopes. And the idea was – and they were all sealed – and the idea was if you open the envelope you’re just going to spend it. But you might not spend the next one.

Steve Rhode: In stages.

Dan Ariely: That’s right. The other thing that he did, which was a bit stronger, was her wrote the name of their kids on some of the envelopes. And now the money was allocated to the kids in their mind. And they were less likely to do it. So think about the monthly budget and create some kind of concrete–

Steve Rhode: I also noticed that people who record their spending, where it each goes, that they cut back on their discretionary spending about 20 percent. It’s just awareness.

Dan Ariely: Right. The same thing go with electricity. People who have an electricity meter tell them how much they’re using seem to be cutting. Not 20 but to 10 percent. So I think all of those tools are very good. I’m trying to think about other things–

Steve Rhode: I have some questions.

Dan Ariely: Actually, let me say one more thing. We actually just finished a set of studies that asked when people have multiple loans, which ones do they pay faster. And what we found is that people pay the small loans first, not the loans with the highest interest rate. And I think it’s because of the satisfaction of reducing the number of loans.

Steve Rhode: Right. I agree.

Dan Ariely: It’s a very sad mistake. And actually Ramsey recommending it. So Ramsey is kind of self-finance guru. But he’s recommending what he calls the snow ball strategy, which says you close small loans, you’ll get used it and you’ll keep on doing it. We don’t find any evidence for that. We find that this strategy harbors on people’s bad intuitions to finish small loans and they don’t close more loans.

Steve Rhode: You don’t think that knocking off a loan or two gives people an incentive to keep going?

Dan Ariely: We don’t see evidence for this. It could be. We just don’t see evidence for that. Instead, we just see evidence of bad strategy where you teach people here’s what you do. You do the opposite of what’s good.

Steve Rhode: Question from the audience here who wants to know if there’s any evidence that consumers under stress give better, more accurate data when they can be anonymous?

Dan Ariely: Okay. so there’s two questions here. Do people under stress give better responses and is anonymity helpful? And so stress is not helpful. We have lots of evidence saying stress is just bad. People process information. They shell away. They don’t think very deeply. They focus on shorter timeframe. This is not a good thing. And anonymity helps sometimes when you talk about information that is embarrassing or humiliating.

Steve Rhode: Or very personal.

Dan Ariely: That’s right. Usually what we do as a research trick is to ask people what they think other people would do. So imagine I asked you a question that you don’t really know what other people would do. But I say what do you think people would do? So I say let’s make it a question about something unethical. So imagine that somebody, not you, somebody else was in my office. And I said I had to leave for an hour and I will not come back. And I close the door behind me and I left somebody else here. Do you think that that person would go into my computer and check my email? Now if I ask you about you, you would say never.

Steve Rhode: Absolutely not.

Dan Ariely: But if I say what do you think? Would somebody else do it?

Steve Rhode: Oh, yeah. They would.

Dan Ariely: Now what you have to do is you don’t know what other people would do. You have to ask yourself, what do I think somebody like me but with morals like everybody else do? And now you can sometimes give better answers. So that’s usually the trick we use. We ask people to say what they predict the average person would do.

Steve Rhode: Is there any evidence that getting people difficult advice, like what to do with their debt problem, is more effective over the phone or face to face?

Dan Ariely: So I don’t think there’s any direct evidence for this. But we do have evidence showing that people are more compliant when they look at the other person’s eyes. In fact, if I look into your eyes and then I _____ away, _____ Compliant when I look into your eyes and make the decision while looking into your eyes. So if you think about it, people don’t want to be compliant. I mean, it’s a really miserable difficult thing that we’re putting ourselves into. The fact is what will force us to do it. And I think that people who try to get behavior change need to bring the phones into the office and need to get people to pre-commit and write letters to themselves and sign things at the moment when they get them to think about the long term. So here I am. We have a difficult discussion. It’s complex. And I get you to think about the long term. Now is the time to get you to pre-commit. I can’t wait half an hour. Okay, here’s the paper. Go home and fill it out.

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Steve Rhode: Okay. I get that. Do people who accumulate debt, is that because of underlying issues in behavioral drivers or is that because they just lack basic money management skills?

Dan Ariely: So there’s lots of questions in here. So it turns out that being poor in the U.S. is very hard. For example, it’s really hard to bank if you’re poor.

Steve Rhode: Yes.

Dan Ariely: And you get your paycheck on Friday and you take the bus. And you get back home and there’s no bank open. The only thing that is open is payday loan or check cashing. And they charge a lot of money. And now you’ve just lost 20 percent of your weekly income to this service because you can’t bank. So do you want to call this lack of skills? Not really.

Steve Rhode: It’s a lack of an opportunity, actually.

Dan Ariely: Yeah. And then the same thing happens with food. So imagine that you went to a new house tomorrow with no food and you had to start equipping a kitchen. And you wanted to buy salt and pepper and olive oil and pots and pans. You would have to invest a lot of money in order to be able to eat more cheaply. Or you can go to McDonald’s. So it’s even hard to create the conditions to live efficiently. So I think that’s really working against the poor. Not to mention, if you ever looked at the forms for food stamps or for aid–

Steve Rhode: It’s massive.

Dan Ariely: A couple of my friends gave these forms to people who have PhD’s. And they basically gave up or filled them incorrectly. When you fill those things incorrectly, it’s not as if a government official is going to correct them for you. They send them back. So the combination of lack of transportation, lack of banking, lack of ability to invest in infrastructure. Even a kitchen that would allow you to eat more cheaply, all of those things really hurt the poor. On top of that, we develop the banking and financial system that abuses the poor.

Steve Rhode: That’s true.

Dan Ariely: I’ll give you one personal story. Three years ago I was at Princeton for the year. I was in Israel for a month. I came back. I discovered my car insurance ran out. They mailed me the letter to Boston but by the time it got to Princeton I was out of the country. By the time I got to it, it was out. I called my insurance company. I said, hey, sorry I missed it. Can I send you a check or give you a credit card number; they said no. Once it’s expired your considered persona non grata. You have to come in person. I said you’re joking. Anyway, I called three other agencies. They all said the same thing. So I couldn’t drive. So I took the train from Princeton to Boston, got to the insurance company. 

The next thing I learned was that my insurance premium went up by $500.00 because all of the sudden I lost all of the discount. I was no longer a good driver. I was – and then I said I had to pay in cash for the whole year. I happened to have a few hundred dollars on me and I had two ATM cards. I got another $800.00. I had enough for half a year. I said, look, I’ll give you half a year now. I’ll pay you the other one in a check in two days. You don’t have to – they said no. You have to pay in advance for a whole year. Luckily, they told me, they have a financial product that allows me to take a loan so I can pay that. And you can imagine, this was a 19 percent loan with a $100.00 initiation fee.

Steve Rhode: You were in a bad spot.

Dan Ariely: I was in a bad spot. I even went to go to Princeton and come back the next day. I _____ spend that day in Boston. So I did that. And, of course, I had to get the loan to pay one payment in a night. And repaid it. But imagine I was close to the edge. Here I was. I lost a day of work, train tickets, $500.00 increase in insurance premium and I took this bad loan on top of that. Now if I was close to now making it–

Steve Rhode: That would have pushed you over the edge.

Dan Ariely: To push me over the edge. And now where would the money come from? If I didn’t have some money put aside. And this is what we’re doing. We’re creating a financial system that penalizes the poor. How do you think we have free checking?

Steve Rhode: That’s right.

Dan Ariely: It’s overdraft. Right. It’s the poor sucker that don’t have enough money and charge their ATM and pay a $35.00 a pop for over drafting.

Steve Rhode: I think the last study I read that 4 percent of the bank pay 40 percent of the overdraft fees.

Dan Ariely: It wouldn’t surprise me. And, you know, with credit card fees it’s probably more. And the whole problem is the temptation of free. So we have banks and they say free checking. And we all get so excited. We run to these banks to open accounts. But they’re not really offering free checking. They just need to get the money somewhere else. And _____ by saying if you made a mistake we’ll charge you a huge penalty for that. And I think that’s just something we need to cancel. WE need to stop this abuse. And it’s going to be very hard. The people who are not paying now for services will have to agree that we’ll start paying for services. But we’ll dramatically cut down the subsidies we’re getting from the poor.

Steve Rhode: So what do you think is more effective when somebody is getting out of debt? They enter into a repayment program. So they’re going to make monthly payments to get out of debt. Is it more effective, at that point, to teach them the envelope method or to teach them why they were spending in the first place? To give them awareness.

Dan Ariely: So I think the envelope method is probably more effective. Because when you teach people questions about why the issue is will they use it every time. And you don’t need to fail a lot to fail enough to devastate yourself. So think about something else like texting and driving. If you know the principle you may do it less. But if you do it even once you can kill yourself or other people. And the envelope method kind of is always going to be there with you. If you do it, it’s always there with you whether you think about it or not. Whereas, thinking, it’s hard to assume that people would think about it all the time. People have other things to worry about. The truth is that not everybody needs to become a financial experts. 

We want finance to be smooth and easy. And we want people to have plans and to have some way to execute it. But we don’t want everybody to become a financial wizard and every time say, is this worth it? Is this not? We want not to be a big part – in the same way that we don’t want people to be doctors. We don’t want them to think all the time about what decisions they have. Everybody needs to worry about the part of their life that they are specializing in or become experts in or good at and so on. So I think we need to automate systems that just make it easy, maybe not perfect. But with less opportunities for big mistakes.

Steve Rhode: Let me give you an example. Right now there is a group of guys that I know who are developing a financial product that will automatically monitor your credit cards and your bank account and tell you how much money you have left over each month. And automatically put in place a plan to dig you out of debt. That sounds like it meets all of your criteria.

Dan Ariely: That’s right. That’s right. I think that’s exactly what we need. Something that doesn’t require lots of thoughts and effort.

Steve Rhode: Even though it makes decisions for you?

Dan Ariely: Even though it makes decisions for you. So there’s always a question about paternalism. Do we tell people what to do? And I think the reality is that we should. We need to. Now somebody can always not do it. We don’t force them to do it. But I think we do need to be more heavy handed. We need to understand that these are really tough decisions. People are facing a marketplace that tempts them. It’s incredibly complex. And I don’t think we should be hesitant about being heavy handed in terms of giving people that recommendation. I think heavy handedness is where the value is going to be. In the same way that you go to the doctor, you want them to tell you what they really believe you should be doing.

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Steve Rhode: What is it that people want or need to hear from a trusted advisor for them to take action to get out of debt? Do they need to hear specific advice? You were saying we kind of need a paternal influence.

Dan Ariely: So if you think that people could do by themselves the trade off between now and later, it just ain’t going to happen. What you need to do is to break it into components. And say I think we need to give people two sets of advice. Meaning to say, this is the minimum amount that you need to do. You can’t do less than that. And here is what I recommend for you to do. The fact is that all of those, whether it’s the minimum amount you need to do get out of debt in X years or what I recommend you to do to get out of debt sooner requires tremendous sacrifices. And the question is, if you’re the expert should I listen to you to give me the right sacrifices. And not all sacrifices are worth ______ making. Right. And I think that’s where the experts really need to understand their clients. So let’s just think about something simple. 

You drink coffee. You have a smart phone and you have cable. Which one of those should you cut. It’s very easy to say cut all three of them. But maybe one of them gives you tremendous joy in life. Coffee. Smart phone or TV. Whatever it is. What we need to do is to figure out how much should we cut for what kind of benefit. And I think that’s what the financial advisors really need to do. To get into the mind of the person, understand their utility function and their preferences and make suggestions that are compatible with this. Because you don’t want the life in which you are miserable your whole life and then you die very wealthy. Or you can start spending when you’re 70. The reality is that your life is about trade offs between now and later. And we need somebody to help us make more thoughtful, deliberate, accurate trade offs that truly would maximize the quality of our lives.

Steve Rhode: So if you called me and said, Steve, here’s my situation; is it more effective for me to try to sell you a solution or tell you the solution?

Dan Ariely: So I think it’s telling. But I think it’s telling after you have learned something about me. So if you can say, okay, so let’s think about your life and let’s think about what gives you joy and let’s see where you’re spending. And let’s think about how would you cut spending in a way that doesn’t take too much of your joy out. And let’s think also about your long term plans. I think that would be better. But I think listening first is an important component.

Steve Rhode: So what are your goals and how can I help you achieve them?

Dan Ariely: What are your goals? What are you enjoying? What are you suffering from? What are your issues? And within there try to optimize.

Steve Rhode: All right. Well, thank you so much for your time. I appreciate it.

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Steve Rhode is the Get Out of Debt Guy and has been helping good people with bad debt problems since 1994. You can learn more about Steve, here.
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