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Here's why a set-and-forget saving system helps you spend less. Pre-committing to a savings strategy is still effective in limiting irrational spending. Image Credit: Stock image

Dubai: Pre-commitment, or taking away a future choice from oneself, is a mechanism for overcoming impulsivity. This is applied to impetuous spending as well, and behavioural economists explain how.

“Pre-commitment mechanisms can be powerful tools in helping people overcome impulsive behaviour, and specifically, overspending,” explained Matthew Griffin, a UK-based behavioural economist.

What are these ‘pre-commitment mechanisms’?
One potential solution to impulsivity, when it comes to spending or otherwise, is what is commonly referred to as pre-commitment, where we set things up today to remove the possible slip-up tomorrow.

For example, the 'set-and-forget' saving system, wherein you link everyday purchases with your savings accounts, and set rules for automatically spending a fixed amount, and then forget about it.

Money psychologists explain how learning to help yourself pre-commit can help you avoid temptation and complete the tasks that need to get done. Here's what you need to know about pre-commitment mechanisms and how you can incorporate them into your financial decisions.

Why do pre-commitments work?

“Pre-commitment works because it takes natural (and sometimes negative) human tendencies like status quo bias and actually makes them work for us,” said Dubai-based money coach Mirin Raul, referring to the bias used to explain why people fail to take advantage of savings opportunities.

In other words, since we're likely to let a previous decision stand if it keeps us from having to make a new decision, we can profit from our own habits of procrastination or not wanting to get out of one’s comfort zone.

“For instance, someone trying to limit overspending can be likened to one living a healthy lifestyle by not keeping donuts or ice cream in their home as a pre-commitment to eating better. Since getting the treats requires leaving the house, the pre-commitment of not buying them can often be enough to keep sweets out of their diet,” said Raul. “The same applies to curbing impulsive spending as well.”

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Someone trying to limit overspending can be likened to one living a healthy lifestyle by not keeping donuts or ice cream in their home as a pre-commitment to eating better.

How can pre-commitments help?

Pre-commitments can also help align your long-term goals with your short-term decisions. Here’s what Dr. Daniel Crosby, a renowned psychologist and behavioural finance expert and the author of New York Times best-selling book titled ‘The Behavioral Investor’, is quoted saying:

“A pre-commitment should be used anytime we feel our short-term preferences may change, but our hope is for our long-term commitments to mirror our current frame of mind."

What this means is that anyone who'd like to spend less, make rational investment choices, or pay down debt could benefit from creating pre-commitment mechanisms.

What does a pre-commitment mechanism look like?

There are multiple ways to create a pre-commitment mechanism to keep you on track to accomplishing your financial goals.

“Many successful budgeters blog about their journey out of debt or toward financial independence. These budgeters are pre-committing to social consequences if they should fall off the debt-repayment wagon,” Griffin explained.

A pre-commitment should be used anytime we feel our short-term preferences may change

- Daniel Crosby

“The negative social consequences of reneging on the publicly stated goals are much stronger than the immediate temptation to spend, which helps those who share their goals publicly to stay on track.”

How pre-commitment helps improve spending habits

There are a number of ways to use consequences as a pre-commitment to improving your spending habits.

For instance, you can set up an automated alert from your bank or credit card issuer that texts you anytime you make a transaction larger than a certain amount.

“In setting up auto-alerts, the consequences of having to explain your purchase can be enough to make you pause before buying anything,” Raul added. “This is why over spenders are often advised to seek out accountability partners or record their journey in a blog.”

How automation helps develop a savings strategy
Having your savings taken automatically from your savings account allows you to pre-commit to a savings strategy that's harder to undo. This automated decision allows you to benefit from your own disinclination to change the default setting.

“Effectively, it allows a retirement saver to make a good decision once that benefits them for the entirety of their savings lifetime. People are busy, their willpower is weak, and their decisions can be inconsistent. By 'setting and forgetting' decisions like saving money, human frailty has no say," Griffin added.
Our expenses can get out of hand if we do not strike a fine balance between spending and saving. Image Credit: Stock photo/Pixabay

How effective is it to budget and save by eliminating temptations?

Another pre-commitment option is to change your environment so that you encounter fewer temptations.

“This is what the dieter who has no sweet treats at home is doing. Reformed spenders can do the same by taking their credit card out of their wallet. There's a very good reason for the old-fashioned advice about freezing your credit card in a block of ice,” explained Raul.

“Similarly, removing your payment information from your favourite online retail sites, unsubscribing from retail email newsletters, and immediately recycling paper catalogues you receive can all help you avoid the siren song of spending.”

When all do pre-commitments not work for a saver or budgeter?

While setting up pre-commitment mechanisms can do a great deal to help you improve your financial life, they're not magic.

“A pre-commitment that can be undone will be undone if it's easy for you to change your commitment when you're feeling tempted and there is evidence that rules-based pre-commitment strategies often does little to stop investors from reacting emotionally – so it’s not fool proof,” Griffin cautioned.

Removing your payment information from your favourite online retail sites and unsubscribing from retail email newsletters can all help you avoid the siren song of spending

- Mirin Raul

This is why financial planners recommend making your pre-commitments difficult to alter. "Once you've made a commitment, you want it to be as hard as possible to change it. Make that choice and lose the key!" added Griffin.

Bottom-line? Outsmart your temptations to rein-in overspending

Pre-commitments can help you protect yourself from making easy, habitual, emotional, or poorly-thought-out decisions.

“Your pre-commitments will be more effective if you know which temptations are most likely to affect you, and if you make your pre-commitments difficult to change, so outsmart your worst impulses before you have a chance to indulge them,” said Raul.

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So even though buying temptations can easily lead to impulsive spending, you can meet these impulsive urges by simply pausing. “Once you pause, you put space between you and your impulse so you can observe your urges from an objective point of view,” Raul further added.

Short-term goals like these can help fundamentally shift how you view and use money. However, financial planners add that they can also be a bit of a challenge. “As you become more money-savvy and less impulsive, you can begin to set longer-term goals for the future,” noted Griffin.

“So if you are an over spender, you can curb the temptation to splurge by simply setting goals and put safeguards in place, and you can slowly but surely make the move from chronic over spender to savvy consumer.”