Monday, June 4, 2012

Saving for Saving's Sake

What are "savings" and why do people save?

These are questions that are rarely asked whenever matters of personal finance are brought up and talked about. Instead, most of us just embrace "saving" as an infallible virtue that everyone should strive for--that we should save for saving's sake. Unfortunately, before we can start making savings-related decisions that make sense, we must first understand what saving is and why we *sometimes* need to do it.

Essentially, saving is the act of setting aside a portion of one's income for whatever reason; the amount set aside is what we refer to as savings. If we want to be more specific, and because rarely do we treat the saved amount as a goal, in practice, savings are what's left over from spending. Again, if we want to be even more specific, saving is what is left over from spending and consuming. We make this distinction between spending and consuming because there are things we buy that we don't consume immediately--like a washing machine or a car--but rather in increments, over time. So in a sense, these "durables" represent a combination of consumption and savings: that portion we "use up" is what we consume and what remains--the value of the item after accounting for wear and tear--can be considered savings. It is important to make this distinction because it allows us rationalize our decisions and  better record big-ticket purchases on our books. For example, if you buy a brand new 50-inch HD TV for 100,000 pesos and you expect to use it for 10 years, then instead of treating it as a one-time purchase of 100,000, maybe you should treat it as an annual expense of 10,000 pesos for 10 years.

Why do we even "have to" save in the first place? Because savings are what's left from consuming, we can look at the act of saving as the postponement of consumption to a later date. Therefore, to answer the question "why do we save," think about reasons why you would want to postpone consumption in the first place?

  1. You expect that the interest you can earn from saving (and investing) would be higher than the rate by which prices will go up in the future, i.e., the rate of inflation. 
  2. You are sure that you will need money in the future for basic needs, but not sure if you'll still have the money to cover these expenses then.
  3. On top of basic needs, there's a possibility that you might need money to cover unforeseeable expenses like hospital bills and you are not sure if you'll still have the money then to cover these expenses then.
  4. You are pretty sure that you can cover all your needs and wants until you die, but you also want to cover the future needs and wants of other people (such as your children's grandchildren).
Basically, your decision to save (and save how much) will be a direct result of how your personal circumstances, tastes, and related decisions interact with the above expectations. If you expect some items to increase significantly in price in the foreseeable future, then it makes sense to buy them now rather than later. If you have an ample retirement coverage, then the need to save for retirement (as in Number 3) will be less; also, instead of piling up cash for unforeseeable expenses, maybe it's better and cheaper to just buy insurance because then your risk will be pooled with that of other people. Of course, the more developed institutional support (though SSS/GSIS and Philhealth, for example) for these future needs is, the less the need to save.

Finally, if you consider for a moment that you won't live forever and if you just focus on the needs and wants of your immediate family (and exclude relatives to the nth degree and descendants three generations down the line), then maybe you can ease the self-imposed pressure to save, loosen your belt, enjoy your income, and live a little while you're still alive.

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