7/24/2013 8:30 PM ET|
Money advice from Charles Dickens
The Victorian-era writer's works have stood the test of time, in part because he wrote vividly about topics that affect everyone -- including finances.
Financial planning focuses on setting and achieving financial goals and finding peace in the process. The first steps in this journey must begin with a commitment to the Micawber principle. Birthed during the Victorian era from the mouth of a Charles Dickens fictional character, the Micawber principle is a good reminder that your financial security, more often than not, is within your own control.
“Annual income twenty pounds, annual expenditure nineteen pounds nineteen and six, result happiness. Annual income twenty pounds, annual expenditure twenty pounds nought and six, result misery.”
This quote is from Wilkins Micawber, the London landlord in David Copperfield, the 1850 novel by Charles Dickens. Few authors provide more in-depth character studies to those interested in behavioral finance. Dickens describes Micawber as a “stoutish, middle-aged person . . . with no more hair upon his head (which was a large one, and very shining) than there is upon an egg.”
The problem is that Micawber has trouble following his own savvy advice. He buys new leather boots on a payment plan he is not able to keep up. And in that day, you didn’t have the convenience of using caller ID to screen unwanted callers. Creditors would regularly show up at the Micawber residence, causing great embarrassment (some would yell from the street) to the family, to demand their payments. Even after Mrs. Micawber is forced to pawn off all her heirlooms to rescue her husband, he eventually ends up in debtors’ prison.
Although it is fiction, Dickens’s David Copperfield is known to have many autobiographical attributes. Literary historians inform us that the character of Micawber was drawn from Dickens’s father, John Dickens, who also spent time in debtors’ prison. As one can imagine, the memory of this experience would have made a strong impression on young Charles.
A timeless piece of financial advice
Despite Micawber’s own financial infidelity, his financial insight has survived his legacy. For those less versed in Victorian English, here are the two equations Micawber lays out:
1. £20 (income) - £19.975 (expenses) = Happiness
2. £20 (income) - £20.025 (expenses) = Misery
The key insight that Micawber points out is that your emotional and financial security is relative to your margins. Spending just a few pennies (or pence) over your income quickly turns a stable situation into a stressful one.
The Micawber principle applies just as much to someone who makes $1 million as it does to someone who makes $30,000. It is not the paycheck but the margin that determines happiness. Dave Ramsey, a modern-day author and radio commentator, coaches his audience to “act your wage.”
Until you act your wage, all other financial planning goals will be unmet dreams. You will not be able to save 10% of your salary toward retirement. You will not be able to give any money away to those in need. You will not able to begin your children’s college savings plans.
Unless you are comparing yourself to those in poverty, research suggests that increasing your income has very little impact on perceived well-being. In fact, Daniel Kahneman, a behavioral psychology researcher, has found that perceived well-being flatlines after 150% of average median income (around $75,000 in 2013 dollars). Beyond this level of income, you can buy more pleasurable experiences, but you can start to lose some of your ability to enjoy the simple pleasures of life.
The Micawber principle and this recent behavioral psychology research remind us that financial peace is more determined by spending and savings than by income. As we consider the sage advice of Wilkins Micawber, it’s also good to remember the difference between head knowledge and putting savvy financial planning into practice. Those who struggle to honor the budget will need to find supportive resources to help them reach their goals. This may be a friend, a spouse, or trusted financial advisor who can help you set and reach your goals. Your financial security and personal peace depends on it.
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I think it was financial columnist Andrew Tobias who once termed the the matter "The Two-Dollar Turnaround."
Spend a dollar a year less than you have and you've got money in the bank. Spend a dollar a year more than you've got and you're in debt.
These are good rules to live by when an individual has enough income to pay for basic living expenses. Most expenses today come with a contract that assumes income remains stable. For those that don't have the experience of life changing events, beware! Income never remains stable; illness, accidents, layoffs, downsizing, divorce, marriage and births are all normal life events. Plan for these events if you are able and trust your maker with things you can not control.
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