Consumers’ Mental Representation of Expenditures: Implications for Spending and Savings Decisions

Abstract People’s mental representation of expenditures is crucial to their budgeting. This article proposes that much like how they represent natural kinds (e.g., animals and plants), people represent expenditures in a hierarchical taxonomy. Seven studies, supported by six norming studies and three pilots, revealed that expenditures are represented hierarchically. We first recover people’s mental representations using a successive pile-sort method that asks people to form hierarchies of categories with common expenditures (e.g., rent, dining out, etc.). The pile-sort reveals consensus in people’s representations of expenditures and that these representations are relatively stable over time. Further, people’s adjustment in their spending behavior can be predicted by the distance between items in their representation. Specifically, when people overspent on an item, they spontaneously adjust spending more on taxonomically closer items. We examine this spontaneous adjustment behavior using both laboratory studies and field data with 6.5 million grocery shopping trips over 12 years. The findings highlight the connection between mental representation and consumer behavior, and they emphasize the importance of studying concepts and categories in the context of consumption.

Earmarking and Partitioning: Increasing Saving by Low-Income Households

This research examines the effects of earmarking money on savings by low-income consumers. In particular, the authors test two interventions that are designed to enhance the effects of earmarking: (1) using a visual reminder of the savings goal and (2) dividing the earmarked money into two parts. Consistent with prior research suggesting that partitioning increases self-control, people save more when earmarked money is partitioned into two accounts than when it is pooled into one account. In addition, the presence of the visual reminder increases the savings rate. The authors conclude with implications for consumer welfare and directions for further research.

What Would You Do with $500? Spending Responses to Gains, Losses, News, and Loans

Abstract We use survey questions about spending in hypothetical scenarios to investigate features of propensities to consume that are useful for distinguishing between consumption theories. We find that (1) responses to unanticipated gains are vastly heterogeneous (either zero or substantially positive); (2) responses increase in the size of the gain, driven by the extensive margin of spending adjustments; (3) responses to losses are much larger and more widespread than responses to gains; and (4) even those with large responses to gains do not respond to news about future gains. These four findings suggest that limited access to disposable resources, and frictions in adjusting consumption, are important determinants of consumption behaviour. We also find that (5) households do not respond to the offer of a one-year interest-free loan, suggesting that this is not a consequence of short-term credit constraints; and (6) people do cut spending in response to news about future losses, suggesting that neither is this a consequence of myopia. A calibrated precautionary savings model with utility costs of changing consumption, and a sufficient fraction of low-wealth households, can account for these features of propensities to consume on both the extensive and intensive margins.

Malleable Mental Accounting: The Effect of Flexibility on the Justification of Attractive Spending and Consumption Decisions

Mental accounts are often characterized as self‐control devices that consumers employ to prevent excess spending and consumption. However, under certain conditions of ambiguity, the mental accounting process is malleable; that is, consumers have flexibility in assigning expenses to different mental accounts. We demonstrate how consumers flexibly classify expenses, or construct accounts, to justify spending. An expense that can be assigned to more than one account (i.e., an ambiguous expense) is more likely to be incurred than an unambiguous expense that is constrained either by existing budgets or by previously constructed accounts. We explore the justification processes that underlie these results and their implications for mental accounts as self‐control devices.

The Impact of Payment Frequency on Consumer Spending and Subjective Wealth Perceptions

Abstract Payment frequency is a fundamental yet underexplored feature of consumers’ finances. As higher payment frequencies are becoming more prevalent, consumers are receiving more frequent yet smaller paychecks. An analysis of income and expenditure data of over 30,000 consumers from a financial services provider demonstrates a naturally occurring relationship between higher payment frequencies and increased spending. A series of lab studies support this finding, providing causal evidence that higher (vs. lower) payment frequencies increase spending. The effect of payment frequency on spending is driven by changes in consumers’ subjective wealth perceptions. Specifically, higher payment frequencies reduce consumers’ uncertainty in predicting whether they will have enough resources throughout a period, increasing their subjective wealth perceptions. As such, situational factors that reduce prediction uncertainty for those paid less frequently (e.g., the timing of consumers’ expenses, income levels) moderate the impact of payment frequency. The effects of payment frequency on subjective wealth and spending can occur even when objective wealth favors those with lower payment frequencies. More broadly, the current work underscores a need to understand how timing variations in consumers’ income impact their perceptions, behaviors, and general well-being.

Managing Mental Accounts: Payment Cards and Consumption Expenditures

Does mental accounting matter for total consumption expenditures? We exploit a unique setting in which individuals exogenously received a new credit card, without requesting one. Using random variation in the time of receipt we show that individuals temporarily increase total consumption expenditure by making purchases with the new card without reducing spending on the others. We do not observe a corresponding increase in indebtedness. Total consumption expenditure rises even for the least liquidity-constrained individuals. The evidence is consistent with consumers treating methods of payment as nonfungible budget categories, as suggested by models of mental accounting and narrow bracketing.

Managing Mental Accounts: Payment Cards and Consumption Expenditures

Abstract Does mental accounting matter for total consumption expenditures? We exploit a unique setting in which individuals exogenously receive a new payment card, without requesting one. Using random variation in the time of receipt, we show that individuals temporarily increase total consumption expenditure by making purchases with the new card without reducing spending on the others. We do not observe a corresponding increase in indebtedness. Total consumption expenditure rises even for the least liquidity-constrained individuals. The evidence is consistent with consumers treating methods of payment as nonfungible budget categories, as suggested by models of mental accounting and narrow bracketing.

Credit Cards as Spending Facilitating Stimuli: A Conditioning Interpretation

Abstract. Four experiments and one study were conducted to test the hypothesis that stimuli associated with spending can elicit spending responses. In all

Purchase Justifiability Drives Payment Choice: Consumers Pay with Card to Remember and Cash to Forget

AbstractAlthough consumers often have multiple payment methods at their fingertips, such as cash and credit/debit cards, prior research is silent on how consumers choose between them. We home in on a key element of purchase—purchase justifiability—that affects how consumers choose to pay. Analysis of 118,042 real-world purchases and six experiments reveals that when consumers are motivated to forget (vs. remember) a purchase because they see it as difficult (vs. easy) to justify, they have an increased preference to pay with cash (vs. card) because cards create a “paper/electronic trail” that aids memory retrieval. These payment preferences are strongest among consumers most likely to recall/track their card spending, and manifest only when card expenses are trackable. We reconcile our results with the classic effect of payment method on pain of paying and discuss implications for merchants and for financial institutions designing payment methods of the future.

Consumer Financial Decision Making: Where We’ve Been and Where We’re Going

When making purchasing decisions, consumers consider their available budget and determine what payment method they will use as well as how they will finance the purchase. Consumers must also plan for long-term consumption by considering short- and long-term savings objectives, taking into account how they will invest money saved, as well as how they will borrow needed money and repay outstanding loans. This issue of the Journal of Association of Consumer Research explores financial decision making, which we define as the accumulation and use of resources across time, as reflected by consumers’ behavior and choices.

The Red and the Black: Mental Accounting of Savings and Debt

In the standard economic account of consumer behavior the cost of a purchase takes the form of a reduction in future utility when expenditures that otherwise could have been made are forgone. The reality of consumer hedonics is different. When people make purchases, they often experience an immediate pain of paying, which can undermine the pleasure derived from consumption. The ticking of the taxi meter, for example, reduces one's pleasure from the ride. We propose a “double-entry” mental accounting theory that describes the nature of these reciprocal interactions between the pleasure of consumption and the pain of paying and draws out their implications for consumer behavior and hedonics. A central assumption of the model, which we call prospective accounting, is that consumption that has already been paid for can be enjoyed as if it were free and that the pain associated with payments made prior to consumption (but not after) is buffered by thoughts of the benefits that the payments will finance. Another important concept is coupling, which refers to the degree to which consumption calls to mind thoughts of payment, and vice versa. Some financing methods, such as credit cards, tend to weaken coupling, whereas others, such as cash payment, produce tight coupling. Our model makes a variety of predictions that are at variance with economic formulations. Contrary to the standard prediction that people will finance purchases to minimize the present value of payments, our model predicts strong debt aversion—that they should prefer to prepay for consumption or to get paid for work after it is performed. Such pay-before sequences confer hedonic benefits because consumption can be enjoyed without thinking about the need to pay for it in the future. Likewise, when paying beforehand, the pain of paying is mitigated by thoughts of future consumption benefits. Contrary to the economic prediction that consumers should prefer to pay, at the margin, for what they consume, our model predicts that consumers will find it less painful to pay for, and hence will prefer, flat-rate pricing schemes such as unlimited Internet access at a fixed monthly price, even if it involves paying more for the same usage. Other predictions concern spending patterns with cash, charge, or credit cards, and preferences for the earmarking of purchases. We test these predictions in a series of surveys and in a conjoint-like analysis that pitted our double-entry mental accounting model against a standard discounting formulation and another benchmark that did not incorporate hedonic interactions between consumption and payments. Our model provides a better fit of the data for 60% of the subjects; the discounting formulation provides a better fit for only 29% of the subjects (even when allowing for positive and negative discount rates). The pain of paying, we argue, plays an important role in consumer self-regulation, but is hedonically costly. From a hedonic perspective the ideal situation is one in which payments are tightly coupled to consumption (so that paying evokes thoughts about the benefits being financed) but consumption is decoupled from payments (so that consumption does not evoke thoughts about payment). From an efficiency perspective, however, it is important for consumers to be aware of what they are paying for consumption. This creates a tension between hedonic efficiency and what we call decision efficiency. Various institutional arrangements, such as financing of public parks through taxes or usage fees, play into this tradeoff. A producer developing a pricing structure for their product or service should be aware of these two conflicting objectives, and should try to devise a structure that reconciles them.

Anticipation and Choice Heuristics in the Dynamic Consumption of Pain Relief

Humans frequently need to allocate resources across multiple time-steps. Economic theory proposes that subjects do so according to a stable set of intertemporal preferences, but the computational demands of such decisions encourage the use of formally less competent heuristics. Few empirical studies have examined dynamic resource allocation decisions systematically. Here we conducted an experiment involving the dynamic consumption over approximately 15 minutes of a limited budget of relief from moderately painful stimuli. We had previously elicited the participants’ time preferences for the same painful stimuli in one-off choices, allowing us to assess self-consistency. Participants exhibited three characteristic behaviors: saving relief until the end, spreading relief across time, and early spending, of which the last was markedly less prominent. The likelihood that behavior was heuristic rather than normative is suggested by the weak correspondence between one-off and dynamic choices. We show that the consumption choices are consistent with a combination of simple heuristics involving early-spending, spreading or saving of relief until the end, with subjects predominantly exhibiting the last two.

Behavioural economics, consumer behaviour and consumer policy: state of the art

Counter to the traditional assumption of neoclassical economics that individuals are rational Homo oeconomici that always seek to maximize their utility and follow their ‘true’ preferences, research in behavioural economics has demonstrated that people's judgements and decisions are often subject to systematic biases and heuristics, and are strongly dependent on the context of the decision. In this article, we briefly review the transition of research from neoclassical economics to behavioural economics, and discuss how the latter has influenced research in consumer behaviour and consumer policy. In particular, we discuss the impacts of key principles such as status quo bias, the endowment effect, mental accounting and the sunk-cost effect, other heuristics and biases related to availability, salience, the anchoring effect and simplicity rules, as well as the effects of other supposedly irrelevant factors such as music, temperature and physical markers on consumers’ decisions. These principles not only add significantly to research on consumer behaviour – they also offer readily available practical implications for consumer policy to nudge behaviour in beneficial directions in consumption domains including financial decision making, product choice, healthy eating and sustainable consumption.

The Exception Is the Rule: Underestimating and Overspending on Exceptional Expenses

Abstract Purchases fall along a continuum from ordinary (common or frequent) to exceptional (unusual or infrequent), with many of the largest expenses (e.g., electronics, celebrations) being the most exceptional. Across seven studies, we show that, while people are fairly adept at budgeting and predicting how much they will spend on ordinary items, they both underestimate their spending on exceptional purchases overall and overspend on each individual purchase. Based on the principles of mental accounting and choice bracketing, we show that this discrepancy arises in part because consumers categorize exceptional expenses too narrowly, construing each as a unique occurrence and consequently overspending across a series of discretely exceptional expenses. We conclude by proposing an intervention that diminishes this tendency by helping consumers consider their spending on exceptional items as part of a larger set of purchases.

Payment Depreciation: the Behavioral Effects of Temporally Separating Payments From Consumption

Abstract. Research suggests that individuals mentally track the costs and benefits of a consumer transaction for the purpose of reconciling those costs and

Double Mental Discounting: When a Single Price Promotion Feels Twice as Nice

This research finds that when a single gain has strong associations with multiple costs, consumers often mentally deduct that gain from perceived costs multiple times. For example, with some price promotions (e.g., spend $200 now and receive a $50 gift card to spend in the future), consumers mentally deduct the value of the price promotion from the cost of the first purchase when they receive the promotion, as well as from the cost of the second purchase when they use the promotion. Multiple mental deductions based on a single gain result in consumers' perceptions that their costs are lower than they actually are, which can trigger higher expenditures. This mental accounting phenomenon, referred to as “double mental discounting,” is driven by the extent to which gains feel associated, or coupled, with multiple purchases. This article also documents methods to decouple promotional gains from purchases, thus mitigating double mental discounting.