How To Spend Money

One of my favorite economists of all time is Milton Friedman.  In his classic book Free To Choose, he discusses four ways that people can spend money.  The basic idea is simple to see, but the psychology behind it is thought provoking.

Here’s the basic idea: When you spend money, you can spend your own or someone else’s money.  You may also spend it on yourself, or someone else.  This combination creates four options:

1.     Spending Your Money on Yourself

2.     Spending Your Money on Others

3.     Spending Other People’s Money On Yourself

4.     Spending Other People’s Money On Others

What’s so important about knowing these ways to spend money?  If you understand how people usually respond in one of these four situations, you might be able to think through ways you or your business can be more efficient in spending.

4 Ways To Spend Money

1. Spending Your Money On Yourself

Everyone likes a good deal.  When you work hard for your money, you probably want to get the best deal you can.  Optimizing each dollar you spend is a common goal.  It’s the simplest form of spending money.  (The challenge is to find ways to control your spending!)

2. Spending Your Money On Others

If you’re buying a gift for someone (Christmas, birthday, etc), you’re probably still trying to get a good deal.  That’s the common point between this and #1.  The difference can be seen in the value of the item.  Most people want to find a gift that the recipient will use, but the spender doesn’t always consider the value it has to the recipient.  If they did, they’d simply give the recipient cash, so that they could spend it as they wish (turning it into category 1 spending).

3. Spending Other People’s Money On Yourself

Have you ever had lunch on your company?  If you aren’t paying, it seems a lot easier to order something you otherwise wouldn’t have ordered.  Your incentive to keep costs down is very low, but the incentive to get a great deal is high.  This is because you’re the recipient of the purchase.

4. Spending Other People’s Money On Others

This is the type of spending we see from bureaucrats.  They’re elected to spend our money on someone else.  The temptation to use this power to engage in corrupt activity is high.   As Friedman states, “People are put in a position to decide what is good for other people…[instilling] in the one group a feeling of almost God-like power; in the other, a feeling of childlike dependence.”

Have you ever noticed a difference in your spending habits when the money you’re using isn’t your own?  What about when you’re spending your own money on someone else?  Share your thoughts in the comments!

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