The real problem of "living up to your income"

 

I know plenty of people who are using almost everything they earn to support their lifestyle.  Some do it because they earn so little, they can't afford to do anything else with it!  Others do so because they want much more than they actually need, and they earn a salary high enough to afford wants as well as needs, so they spend all their "excess" money on those luxuries.

That's where the trap comes in for everybody, but particularly for higher-earning individuals and families.  They're committed to repaying hire-purchase accounts, credit card bills, leases, and what have you.  They've used their surplus income to "bring forward" consumption that they'd otherwise have had to put off until they managed to save enough to buy it.  Instead of saving money, they borrow money in order to spend even more.  Psychology Today examines this behavior.

For decades, America has operated on a simple yet precarious principle: Borrow from tomorrow to pay for today. This mindset, deeply embedded in our economic systems and individual behaviors, has created a teetering tower of debt that threatens to collapse under its own weight. As a nation, we've normalized living beyond our means—from federal deficit spending to consumer credit card debt—with seemingly little consideration for the inevitable reckoning.

. . .

The national debt has grown exponentially rather than linearly, suggesting that each generation has become more comfortable leveraging the future than its predecessor.

. . .

Historical evidence suggests that debt-fueled economies eventually face correction. The 2008 financial crisis provided a preview of what happens when leveraged systems begin to unravel. Yet instead of fundamentally restructuring our approach, we responded with even more borrowing and financial engineering.

There's more at the link.

The problem is that such spending habits last only as long as there's money to spend.  I'm seeing more and more cases where income is suddenly cut off (as in being fired, or made redundant) or greatly reduced (getting a new job, but having to accept a much lower wage or salary than you made in the old job).  Having weighed oneself down with debt and spending patterns based on a higher income, suddenly one is faced with creditors demanding repayment, vehicles being repossessed, and all the other burdens of an over-leveraged household.  Kids whine when they're told they can't have all they're used to, spouses blame each other for the sudden hole in their finances, and in some cases families break down altogether under the strain.

Karl Denninger sums up the problem.

The real problem for ordinary people in the economy is that anything that is unsustainable over a sufficient amount of time will blow up in your face.  But when will it blow up?  That's a more-difficult problem.  For example we know that housing is largely locked up in a large part of the country -- indeed, most of it.  In those places where it sort-of-isn't there are other serious problems including property tax and insurance concerns that might as well have it locked up from a standpoint of actual affordability.  Add to this that many formerly thought of as "safe" professions which earn a nice wage, including computer science and medical, are rapidly being destroyed in terms of forward earnings capacity by both AI and foreign worker imports.  There are plenty of stories already of people living quite high on the hog having accumulated a lifestyle with mandatory monthly spend commensurate with $250,000 wages suddenly being laid off and finding no replacement for that wage at even half what they formerly made.  If you've managed to get yourself into a leveraged position with a forward requirement for such earnings and they disappear you're in very serious trouble indeed.

Again, more at the link.

Just this week (so far) I've heard from friends and acquaintances fighting that very issue.  Examples:

• A family has been reduced from three cars to one, because they couldn't afford the lease payments, insurance, etc. for the two very nice vehicles used by father and mother.  The remaining old beater had been given to their teenage son, but he's had to give it back to the family.  Neither he nor they are very happy about that.
• Two families are urgently seeking low-cost rental accommodation because their nice big McMansion-style houses are being repossessed.  They're finding it almost impossible to locate anything as nice as what they had, and even lesser houses are more expensive to rent than they had anticipated.  It's gotten to the point of screaming fights with their kids because they're going to have to share two rooms, one for the boys and one for the girls, rather than each have their own space.
• Two families have had to give up their pets to shelters for (hopefully) adoption.  It's been a real trauma, particularly for the children, as they can't be sure their pets will go to loving homes where they'll be properly cared for.
• I know too many people who are using one credit card to pay off another each month, never reducing what they owe.

With those problems fresh in mind, you can bet that my wife and I are checking on our monthly expenses to make sure we can fit into a reasonable budget, and keep our heads above water if any sort of financial emergency hits.  Recent medical bills would have made that very problematic, except that you, dear readers, came to our rescue last year, to our deep and abiding gratitude.  Even so, it's up to us to use what we have wisely, and not waste it.  We also made a decision early in our marriage to get out of debt as far as possible (following Dave Ramsay's advice), and pay cash for routine expenses wherever possible, and pay off our credit cards and other accounts in full every month rather than accumulate a balance, and save money in an emergency fund.  Those decisions have been a Godsend for us, sparing us more than a little worry.

I guess more and more of us are going to be facing this conundrum as prices increase and jobs become harder to find.  It's a good time for all of us to take stock of where we are, what we're spending, and how we might cope if similar problems rear their ugly heads in our lives.  If you have helpful suggestions that might help others to do that, please share them in Comments.

Peter