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Nudge - Personal Financial Decisions

I was just reading a book, not particularly centered on economics or personal finance, but I got to a chapter this evening with some information I'd like to share. I've been reading "Nudge: Improving Decisions About Health, Wealth, and Happiness," written by Richard H. Thaler and Cass R. Sunstein, the past few nights and have been enjoying it tremendously. Although it primarily centers around policy making - really things we (probably) have little or no control over - it does highlight some interesting facts about how you and I humans make decisions. It goes on to explain, in great detail and depth how those decisions can be (and some cases SHOULD be) heavily influenced, not by removing choices or restriction, but simply through format. For example, the book begins by highlighting the case of a woman in control of a group of schools' lunches. This woman dictates not only what is served, but also how it is presented. As a little experiment she decides to regorganize the food at every school, NOT CHANGE THE CHOICES, and is able to increase or decrease certain eating and purchasing decisions up or down 25%. For example, putting healthier choices at the beginning of the line and at eye level (an upper shelf) at an elementary school increases the purchase rate of those healthier items. If they are placed at the back of the line, and at the back of the display case, these same options or often swapped (in terms of difference in purchases) with the unhealthier dessert-style items that have a better place at the beginning. So anyway, I stumbled upon a chapter on finance this evening and it highlighted some astounding facts. First, and really unrelated to what I eventually (I know it's taking a while to make a point) want to say, I didn't realize how incredibly profitable student loans are and some of the "predatory" practices that student loan companies and colleges go through in this industry. For example, it is highlighted in the book that many times student loan companies will solicit schools, and loan offices specifically and offer money or donations to the college in exchange for a "preferred" reputation. IE, when students inquire about loans, a loan company that has agreed to these terms before hand will be presented to the student first (sometimes schools have even given lists to students that say only preferred loans are excepted, even when that is completely not the case). Shocking! But, what I really wanted to get at was personal credit, particularly credit cards. According to the book:
  • The Census Bureau reported that there were more than 1.4 billion!!!!!! credit cards in use in 2004 for only 164 million cardholders (average of 8.5 cards/person)
  • Currently 115 million Americans carry a balance
  • Some research suggest that American households carry an average of $12,000 in credit card debt. At a typical interest rate of 18% that's over $2000/year in interest payments (just on credit cards) alone!
Astounding. And after crunching some numbers, if the above estimate is true, that's nearly $2 Trillion dollars in credit card debt. In total if these numbers are correct, we are spending a total of $328,000,000,000 (that's just a billion mind you) in credit card interest payments alone. What does all of this mean? Well, it is even more interesting to look at these numbers against the average annual income for US citizens. Unfortunately this information is not as easy to find as you might think (from Wikipedia):
In 2007, the median annual household income rose 1.3% to $50,233.00 according to the Census Bureau.[3]The real median earnings of men who worked full time, year-round climbed between 2006 and 2007, from $43,460 to $45,113. For women, the corresponding increase was from $33,437 to $35,102. The median income per household member (including all working and non-working members above the age of 14) was $26,036 in 2006.[4] In 2006, there were approximately 116,011,000 households in the United States. 1.93% of all households had annual incomes exceeding $250,000.[5] 12.3% fell below the federal poverty threshold[6] and the bottom 20% earned less than $19,178.[7] The aggregate income distribution is highly concentrated towards the top, with the top 6.37% earning roughly one third of all income, and those with upper-middle incomes control a large, though declining, share of the total earned income.[8][2] Income inequality in the United States, which had decreased slowly after World War II until 1970, began to increase in the 1970s until reaching a peak in 2006. It declined a little in 2007.[9] Households in the top quintile, 77% of which had two or more income earners, had incomes exceeding $91,705. Households in the mid quintile, with a mean of approximately one income earner per household had incomes between $36,000 and $57,657. Households in the lowest quintile had incomes less than $19,178 and the majority had no income earner.[10]
But, using the above referenced number it means that we are spending an average of $2000 on credit card interest with $50,000 dollars of income. Keep in mind that the above number is before tax! BEFORE TAX, a full 4% of our income goes to credit card interest (ONLY INTEREST). After all taxes (local, state, federal) this number probably spikes closer to 10%. How would you like to receive 10% back? The truth of the matter is that credit card interest is crushing many households, let alone the actual debt, so tighten your belts, pay down that interest and debt and begin socking your hard earnings away - for yourself, not some credit card company!

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