Ask the Experts: Did the Great Recession Teach Us Nothing About the Dangers of Debt?
In this edition of our "Ask the Experts" series, we check-in with authorities in the fields of business and consumer psychology in order to gain a better understanding of avoidable post-recession overleveraging.
Isn’t the definition of insanity doing the same thing over and over again while expecting different results each time? Are we as consumers therefore crazy? That’s obviously blowing things a bit out of proportion, but you have to wonder what motivates people to resume racking up billions in dollars in credit card debt on an annual basis shortly after extreme overleveraging helped cause one of the worst recessions in history.
Unfortunately, this isn’t some sort of abstract hypothetical. It’s reality. After sensibly battening down the financial hatches in 2009 and – to a lesser extent – 2010, U.S. consumers have apparently decided it’s time to start throwing plastic around again. From the beginning of 2011 to the end of 2012, we racked up roughly $80 billion in new credit card debt, bringing our grand total amounts owed to an astounding $833.8 billion. Oh yeah, and that includes nearly a quarter of a trillion dollars in debt that was so far past due that the banks had to write it off their books (consumers still owe it, though).
WalletHub projections now indicate that an increase in debt levels of only 15-20% could trigger widespread defaults and place potentially unsustainable pressure on the economy. Yet, in the face of these realities, people continue to spend.
The question is why? Do we have a bona fide obsession with debt? Have the lines between luxury and necessity really become that skewed? Or are we simply choosing not to connect the dots between pre-recession spending levels and an economy propped up by a massive bubble, the reach of which extended far beyond what one would consider to be industries related to housing and real estate?
These questions are not only interesting to ponder, they’re also essential to answer if we are to prevent history from repeating itself. That’s why we reached out to a number of experts in consumer marketing & psychology for insight.
You can check out each person’s thoughts by clicking on their respective name below or skip to the Takeaways section for a quick synopsis and some actionable advice.
Meet Our Experts
There are different parts of the self that desire different things. There’s the part that desires to be slim and fit, and then there’s the part that desires to eat chocolate cake and candy. … There’s a lot of evidence that suggests that people as a rule have trouble dealing with their immediate impulses and that we aren’t very good at making rational decisions based on expected value.
People are optimistic about the economy in general and their own future financial status. I think this is the main reason people start to spend. Even for people not having financial problems, when they do planning they will think about, ‘OK, I’ll get a promotion and a salary increase, I’ll probably spend more.’ So, whatever income level here is a close link between people’s expectation of their income and their spending. A lot of things, you can spot.
People sometimes are overconfident. … A lot of people over-estimate. They overestimate in how long they can finish a project, they overestimate the likelihood of getting a certain income, and this over-estimation will get them in trouble again. For example, all these media reports and messages from the businesses – they want people to spend, and they give a signal that, ‘Hey, the economy is turning.’ Real estate agents encourage people to spend. They tell you, ‘Hey, you know what – the interest rates will go up really quickly.’ And people are keen for houses, there are multiple offers. So they keep sending out these signals and this will create a false optimism, which leads to overspending. This overspending first, I think, originates from people’s nature to be overconfident and optimistic, and second, there are too many messages around from the marketing business and the government, showing that the economy is booming to a higher extent than it actually is.
Nevertheless, how can people so quickly forget the struggles of the Great Recession?
This is human nature. People like to spend. This society is getting very materialistic and people like to spend. People reward themselves with material goods. They reward their kids and family members with material goods. They like to have big houses, and they will find any reason to do so. If the economy crashed now they’d probably need to step back, but after some time they’d start to create this expectation that maybe things will get better – ‘I can do what I did before again.’ I think this is the human nature. They want to get goods, they want to acquire stuff. They are confident and they want to create confidence through all kinds of cues.
How long does it generally take for people to realize their spending habits are unsustainable?
I think for ordinary people, they get a few paychecks [and] if they don’t get the salary increase that they expected, they will start realizing it and go back to their normal spending. This is a tricky question. I really don’t know, but I do think that they are on their own timeline. People think, ‘Oh, I need to find a job in six months,’ and then after six months if they don’t succeed they realize that, ‘I’m too confident.’ Or people say, ‘I’m expecting a salary increase in a year.’ And after the salary doesn’t increase, or not as much as they were expecting, they go back to their normal expectation. I would say, for most people, their increase in spending relates to their expectation of salary increase, which usually occurs annually. And a lot of people, if they’re unemployed, they expect a certain amount of time to get a job and this is the timeframe they start to correct the expectation.
Recent news on the economy and/or environment may have changed consumer orientations toward individual debt, which could be seen now as an opportunity to make more money given the recent upward trends in the stock market. This state of mind is very different from the one that dominated the recession, when individuals would try to secure their position and minimize losses.
According to the regulatory focus theory (Higgins, 1997), individuals are motivated to seek pleasure and avoid pain. Reaching those end states through self-regulation implies the adoption of one of two orientations: promotion or prevention. On the one hand, prevention focus is driven by security needs and may be reflected in behaviors emphasizing risk avoidance (e.g., pay off debt as soon as possible). On the other hand, a promotion focus originates from nurturance and advancement needs, hopes, or ideals, and emphasizes risk-taking behaviors (e.g.: take risks and invest for a profit). The choice of one goal over the other affects the approach/avoidance strategies regarding risky behaviors.
There are a few values and/or personality traits that have become more prevalent among American consumers over the past few decades: materialism; a lack of delayed gratification (‘I want/need it now’); and a culture of consumption, so to speak. These values/traits combined with easy access to credit (before the 2010 CARD act) have led consumer’s to buy many things, running-up debt.
The only tip I have is one of common sense and personal finance conservatism, and I am not confident that most people will follow it: if you have to borrow money to buy something that is not a necessity (e.g., a pure ‘want’ rather than a true need’), then you should probably hold-off and not buy until you can afford it.
People generally are drawn to having the best they can get, regardless of whether they need it. Thus, we overextend ourselves financially in many areas, not just credit cards. For example, cell phones continually update to new models and then advertise the phones as ‘new and improved.’ Are people moving to these newer models because the one that they have does not meet their needs? In many case, the answer is ‘no,’ but consumer psychologists know that it is hard to resist a ‘good deal’ or something that is ‘new and improved,’ so marketing targets this drive for the latest and best thing on the market. We quickly habituate to what we have and then strive for more. We see this behavior even in infants. In one study, researchers provided a three-item black and white mobile for infants to look at, and they found that the infants were content. However, when infants were initially provided a color mobile with more than three items, they became distressed and cried when that mobile was replaced with the three-item black and white mobile. Once they had experienced more, they were no longer content with less.
As parents have attempted to give their children more than they had, they may have inadvertently led them to expect more and desire more at younger and younger ages. In addition, children, because of their limited experience and understanding, often fail to see that what their parents have came as a result of sacrifices while they were younger. Young adults, who often have far less earning power than their middle aged parents, often want to live with the same comfort level that their parents have reached, but without recognizing that sacrifice is necessary to reach that point. People also confuse what they need and what they want. While it may be nice to have a good car, high speed internet, and 200 channels on television, these are not needs, yet people often believe that these are necessities, and so they put themselves into debt trying to obtain them.
Do we just have really selective memories or is an inability to accept personal responsibility part of the problem?
When things are going better, people often have an amazing capacity to remember the positive and forget the negative. This is an adaptive trait. If women were to think about the pain of giving birth more than the joy of having a child, there may be a decline in the population, but instead, once the pain has passed, the focus is on the positives.
We have developed a culture of entitlement in which people come to believe that certain things are “our right” without recognizing that ‘we reap what we sow.’ In some situations, parents contribute to this sense of entitlement by failing to allow children to experience the consequences of their behavior. This makes it more difficult for them to accept responsibility as they age. This works against personal responsibility, which suggests that we are responsible for our choices and the consequences of those choices. People also tend to view themselves as being more responsible than their behavior actually suggests, and to view themselves as more responsible than others (because they selectively choose to whom they will compare themselves), and this also makes it more difficult for them to recognize the need to change.
How effective are people at learning from past mistakes?
People are capable of learning from past mistakes, but they must be vigilant and aware of their temptations and triggers so that they can stave off impulsive choices. They must also challenge and change the way that they think, opting for delayed gratification rather than instant gratification. Many people just assume that debt is inevitable and thus fail to recognize those things that they can do to avoid or reduce the debt. Another problem is that, once debt has accumulated, it is difficult to earn enough money to pay it down quickly, without creating the need for more cutbacks. Many people draw their sense of self-esteem from what they own or can do with their resources. This makes the idea of giving up certain things threatening to their sense of well-being.
There are several things that make people more likely to be successful in managing their debt, but it comes down to making a plan, getting help when necessary, and surrounding themselves with support and encouragement to stick with the plan. It will be necessary to differentiate needs and wants and to make very deliberate choices about what “wants” will be fulfilled for the time being. In addition, it is important to track expenses carefully to account for all money that is spent, in order to see if their spending reflects the values that they profess. It will involve giving up some things for the time being, but seeing this as a temporary condition for a longer-term gain can make temporarily giving up wants more bearable. Developing a plan or a budget that they can live with is important. While it is necessary to make immediate changes, there also have to be lifestyle changes and adjustments to thinking in order to avoid the trap of paying down debt and then running it back up again.
- After a brief respite while the economy was on high-alert at the end of the recession and in its immediate aftermath, credit card debt is again on the rise and approaching unsustainable levels.
- Consumer overconfidence about future income and economic conditions serves as the primary rationale for this type of dangerous overleveraging.
- We also have a strong sense of entitlement, very selective memories, and a desire to attain the same luxuries as parents and other role models without making the same sacrifices they did (we see the result, not the work it took to achieve).
- It's in the best interest of many industry actors to promote the idea that the economy is healthy and people should spend freely.
- People tend to confront false expectations when an anticipated event does not come to fruition (e.g. you don’t get that raise you were counting on).
- Given that widespread defaults could result from even a 15% increase in current credit card debt levels, we had better hope people see the error in their ways sooner rather than later.