If you have not heard of the hedonic treadmill, you are not alone. A lot of HENRYs, including myself prior to discovering financial independence and FIRE, are unfamiliar with the concept. For this reason, I wanted to get into a little of the behavioral psychology side of personal finance in today’s post. Let’s start by highlighting a couple of statistics that I think are important to the discussion.
- U.S. adults with a net worth of $100,000 or more are more likely to carry credit card debt than those with fewer assets. In fact, those with a net worth between $100,000 and $199,000 are the most likely to carry credit card debt, followed by people with a net worth between $200,000 and $1,000,000. [1]
- 18% of employees making more than $100,000 annually live paycheck-to-paycheck. [2] According to a separate study conducted by Nielsen, one in four families making $150,000 a year or more are living paycheck-to-paycheck. [3]
- Based upon the 2020 Medscape Physician Wealth and Debt Report, 50% of physicians have a net worth of less than $1MM. This is in spite of an average salary of close to $300,000 across the various physician specialities. [4]
- The same Medscape Physician Wealth and Debt Report from 2019, concluded that 39% of physicians 50 – 54 years of age had a net worth of less than $1MM. 55 – 59 reported 29% and 60 – 64 reported 25%. The figure below was lifted from the study and outlines net worth by age. [5]
Since two of the four above are based on surveys of physicians, I do want to point out that I am in fact not a physician. I included III and IV simply as examples to highlight how high income individuals do not necessarily equate to high net worth individuals. I think this survey is very telling about not only physicians but high income professionals in general. Why is it that someone with an above average income is more likely to carry credit card debt? How can someone live paycheck-to-paycheck with an above average income? The answer is simple… the hedonic treadmill.
What is the Hedonic Treadmill?
The hedonic treadmill, also known as hedonic adaptation, is the concept that we tend to have a happiness baseline that we return to despite major events in our life, both positive and negative. Our return to our happiness baseline is driven by a simultaneous rise in expectations and desires which ultimately results in no tangible improvement in happiness. Even when there is a happiness boost, it does not last as long or is not as intense as we would have expected prior to the event.
When applied to personal finance, this concept drives the old adage that more money does not equate to more happiness. As you get that next promotion and/or your income grows, so too does your financial expectations and desires. As a result, your spending grows along with your income. You become a victim of the hedonic treadmill. If you are like me, you then wake up one day and realize that you are living paycheck-to-paycheck and not actually building wealth. You realize you have become a HENRY (High Earner, Not Rich Yet).
The Hedonic Treadmill in Action
The hedonic treadmill is a very interesting concept when examined through the lens of life rather than solely through the lens of personal finance. I suspect one day I will write a post on the topic more broadly, but today I wanted to focus on the hedonic treadmill in terms of personal and behavioral finance. In order to do so, I wanted to dive into a couple of areas where the hedonic treadmill is commonly seen, especially with HENRYs.
The Search for the Perfect Home
I want you to think back to when you purchased your first home. If you are like me and struggle to remember what you had for breakfast and you can’t remember back to when you purchased your first home, try thinking back to when you purchased your most recent home. Got it? Now, I want you to reflect on the following:
- First, think about the period of time leading up to when you purchased your home. What feelings/thoughts did you have? This stage is often characterized by anticipation and excitement. You are building toward a major life event; a major financial purchase. What level of happiness did you have during this period?
- Next, think about the period of time when the home finally became yours and you moved in. As the reality of the purchase came to fruition, anticipation turned into reality and likely even more excitement. There was likely the excitement of moving into your new home and making it your home. There was likely the excitement of starting a new adventure and making new memories. What level of happiness did you have during this period?
- Last, think about the period of time after you settled in and got back to the routine of your life. Put another way, think about when your happiness returned to your baseline? How long did it take? A few months… A few years…
If you are like most people, your feelings of anticipation, excitement, and happiness are fleeting because you eventually return to your happiness baseline. In doing so, you may begin to fall victim to the hedonic treadmill and hedonic adaptation. You begin to think about what is next. You begin to want more.
- What if the home was larger? It may not be as large as it seemed at first. As your family grows, you really need something that has more room. A larger home would make you happier.
- What if there was more land? More land would allow you to do more of the things you enjoy without space constraints. More land would make you happier.
- What if there was a larger kitchen or an entertainment room? Maybe you need a larger this or a double that? The kitchen and common areas are great but they could be arranged differently or have some additional amenities that would make entertaining others more enjoyable. These changes and/or additions would make you happier.
- What if there was a pool? A pool would be an excellent addition as your family grows. A pool would make you happier.
If the spectrum of emotions and thoughts above resonate with you, you are not alone. They resonate with me because they were my thoughts after buying my first home… and the next home. They are most everyone’s thoughts. This is the hedonic treadmill in action.
A large financial purchase like a new home should have a measurable impact on your happiness. After all, it is a significant financial purchase. Does it in fact have a measurable impact on your happiness? For most, the answer is probably yes. However, the increase in happiness is short-lived because you ultimately return to your happiness baseline. As you do, you begin searching for something bigger and better; a home that will improve and sustain your happiness level. You keep chasing that rainbow.
The Next Best Car
As I noted in my previous post, there is a tangible opportunity cost associated with a car purchase. As a HENRY, you likely can afford most any car you want. Many people consider the upfront opportunity cost associated with a new car purchase. However, many people, including many HENRYs, do not consider all the opportunity costs associated with a car purchase. What happens when that new car smell wears off and you start to get the itch to trade in long before you actually need to upgrade? What happens when a new model comes to market or a better brand? What happens when you feel pressured to buy a new care or a nicer brand or model simply to “maintain your lifestyle” or keep up with your peers.
Once again, this is the hedonic treadmill in action. Your new car purchase may result in an increase in your happiness but it will likely be fleeting. You will eventually return to your happiness baseline at which point you will begin to think about your next car. Something newer… Something better… Something that will bring you more happiness. Once again, you are chasing a rainbow. This one happens to be fast moving.
Everything Else
Home and car purchases are two significant financial purchases common to many. For this reason, they are easy examples to highlight the hedonic treadmill in action. There are many other examples that I could use including private school, travel, vacation homes, boats, food, technology, etc. All of these also can have a hedonic treadmill effect. In fact, most purchases in life are subject to this phenomenon. As a HENRY, you likely can identify may aspects of your life where you fall prey to the hedonic treadmill. The secret is recognizing it.
The Pot of Gold Fallacy
The hedonic treadmill is a very powerful force in the life of a HENRY. As an above average earner that is not rich yet, you likely spend a significant amount of money. Spending money is not inherently a bad thing as long as you evaluate where you spend your money to ensure it aligns with your values and creates a measurable return on your happiness. Once I understood the hedonic treadmill and it’s impact on my life, it changed how I viewed money and purchases. I came to realize two simple things:
- There is no pot of gold at the end of the rainbow.
You can spend your whole life chasing rainbows and not find a pot of gold at the end. You will only find another rainbow. Regardless of how much your income grows, how big of a house you buy or how nice of a car you drive, you will always want something more. You will always want something bigger or better. If you are not careful, you can spend your whole life chasing happiness this way and you will never find it. This is why it is important to understand what you value and what makes you truly happy. This is why it is important to understand the power of the hedonic treadmill and the impact it can have on your life.
- If you are not careful as a HENRY, you will become the working rich.
When I first discovered financial independence, it did not take me long to realize I was on a dangerous financial path. My lifestyle and all the corresponding expectations and desires continued to grow right along with my income. I was spending money in areas simply because it was an expectation that I spend in those areas even if it didn’t increase my happiness. In trying to keep up with the Jones’, I was becoming the Jones’. If I continued on this path, I would become just another member of the working rich. Yes, my above average income would afford me the finer things in life. However, I would ultimately be a slave to my income and the job that provided it. I would become just another member of the working rich.
HENRY to FIRE
It is important to point out that I am not advocating that you choose not to buy that larger home or drive the nicer car. All of these purchases are fine and they can and do bring happiness. The secret is understanding the opportunity cost of your purchasing decisions and where you truly derive your happiness.
Once you understand the hedonic treadmill and impact it can have on your life, you will begin to recognize it everywhere. You will recognize it with your friends, your family, and your co-workers. You will recognize it in every consumer advertisement you watch. You will without a doubt recognize it in your own life. All of this is a good thing. If you recognize it, you can choose to react differently. You can make more intentional decisions that allow you to own your life instead of your life owning you. You can take back your freedom and thus take back your life. You can go from a HENRY to FIRE.
Regards,
Henry
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Henry’s Personal Highlight:
As I noted in the post, the hedonic treadmill was something that was alive and well in my life prior to discovering financial independence. What you may be surprised to hear is that it is still very much alive in my life. I am not immune to it just like you are not immune to it. Just because I now have a better understanding of behavioral finance and specifically the hedonic treadmill, it doesn’t mean I just stopped spending money or upgrading my life. I drive a nice car and live in a nice home. I enjoy some of the finer things in life whether it be travel, food, wine, or technology. Despite my desire to be financially independent (FI), I still have plans to buy a nicer home in the next couple of years.
All of this will ultimately extend my FI timeline and I am OK with it. I am OK with it because I understand the opportunity costs of these purchases and they align with my values. I am OK with it because there are a lot of other purchases I would have made prior to starting my journey to financial independence that I have chosen not to make. I am instead redirecting this money to achieving FI and buying back my freedom. You can too if you choose.
References:
[1] https://www.cnbc.com/2019/12/18/credit-card-debt-is-worse-for-those-with-high-income.html
[4] https://www.medscape.com/slideshow/2020-compensation-debt-worth-6012988#4
[5] https://www.medscape.com/slideshow/2019-compensation-wealth-debt-6011524#5