As far as I can tell, money has two valid uses: stability and utility. It has a lot of other uses as well, like signaling and scorekeeping, but these are poor uses of money and focusing on them will reduce your ability to use money for better uses. Most people do a fairly poor job maximizing for either of these things.
Using money for stability enables you to decouple your lifestyle from your income and expenses. If you make $1000 per month and require exactly $1000 per month to live, you probably have very little stability. Even one unpaid day off would throw your month into chaos, as would a small unexpected expense. Building up a buffer of savings allows you to be unaffected by such things, as does having an income that is several times greater than your expenses.
Utility is simply converting your money into something that provides a benefit. Buying food counts as utility as does giving a gift or renting a car.
If someone derives a lot of stability and utility from their money, they are set! These two elements alone create a good personal finance ecosystem. Focus on them when allocating your money.
Once you can provide yourself with the basics like shelter and food, you should focus primarily on stability. When I moved into my RV (shelter) and had enough passive income for food, I immediately shifted my priorities towards stability rather than excess utility. Many people have never truly felt financial stability, so they don’t understand how beneficial it is.
One way to think is: “For how long can I sustain my current level of utility under worst-possible-case conditions”. The pandemic has provided a reasonable benchmark. I would focus on getting this duration to at least a year before focusing seriously on increased utility. Beyond a year is still valuable but it feels more abstract, as anyone who is capable of saving up a year of expenses is also probably capable of figuring out how to earn more money within a year.
Thanks to advertising it’s very easy to imagine the benefit of buying an iPhone (though it may not be as big a benefit as is promised), but it can be hard to imagine the benefit of two more weeks of financial buffer. For that reason, this initial push towards stability can be challenging for a lot of people. It’s tempting to just buy stuff.
Once you get to more than one year of buffer, you can consider allocating additional savings to utility. Wait until the money is in the bank, though. Don’t finance something and use future earnings to pay for it, as that decreases your stability significantly.
Let’s say that you save up a year of expenses and have an extra $10,000 in the bank. I would next consider how I could convert that money to the most utility over my lifetime. We’re all different, but good uses for me have been trips with friends (memories and bonds that last a lifetime) and shared properties with friends.
A good starting point to figuring out what these things are is to think back over the past five years and thank about which experiences or memories have made you most grateful. For me the list is almost entirely quality experiences with people I care about, so I try to spend money in ways that generate more of those things.
I find that most people end up spending on utility they don’t care about. They buy a car for $30,000 that gives them 1.2 imaginary units of utility versus a $5,000 car that gives them 1 imaginary unit of utility. These purchases are usually because people don’t think much about what actually gives them satisfaction, and instead they look to society, the media, or advertising for clues.
If you spend efficiently on utility, you will probably find that continued stability is easy. When you are getting a lot back from every dollar you spend, you don’t need to spend as much, and you are more motivated to invest in stability to keep the things you have. When you spend money and don’t get much back, you feel like you have to spend more to fill the void.
Stability for you may be two months or it might be several years. Utility might be the same sorts of things that provide me with utility, or it may be a wood shop in the backwoods. The particulars don’t really matter as much as the general concepts. Understand how money can benefit you the most and focus on those things.
Photo is Liliuokalani gandens in Hilo. I took a walk there yesterday and even in the rain it was really peaceful and pleasant. Feels great to be back in Hawaii after 8 months!