Tuesday, July 13, 2010

Consumption Maximization

Saving money is in a way deferring consumption.  Money itself is an IOU from society to consume an amount of goods and services. when you put money aside you are delaying consumption.

You could consume something today, but if you instead save and invest these IOU's you could buy more, bigger and better items to consume later.

Now I'm going to claim that the ultimate goal of saving and investing is to maximize the amount of goods consumed throughout a person's life.

say you have these options,
1. Buy a $100,000 Porsche today in cash.
2. Invest the money and use the dividends to lease a new $600 a month car every 3 years for the rest of your life.
3. Invest the money for 10 years @7% then lease a $1200 a month Porsche every 3 years for the rest of your life.

Choice #1 gives immediate gratification.
while choice number 2 or 3 delay the consumption, there by maximizing the total consumption.

Good things come to those who wait

A disturbing fact in North American culture,
as soon as a kid gets his first job he moves out of the parents house.
when the kid makes more money, possibly cause he is done school or university, he buys a car.
he makes a little more money, he buys a house, or rents a better place, he is no longer a student after all.
the kid gets married, now there are 2 incomes and the 2 can share the house and possibly share one car, and maybe even start paying off student debt? that's great until the babies start coming.

In this sad yet typical story there is no delayed consumption. Any income made is spent right away. And so you are doomed to work for the rest of your life.

I personally think the single most important financially wise decision a young person can make is to live in the parents house for as long as possible at least until  mid 20's in order to build some capital.

The second most important decision is to delay buying a car for as long as possible. take the bus / subway. and build your capital.

If I were to give any advice to a young person it would be build capital first.

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