Cashless Effect, What Is It And How To Avoid It

Remember when I wrote about heuristics and biases? Well, cashless effect is another example of biased behaviour when it comes to financial decisions. Understanding how they may affect the decision making process is the first step in avoiding them.

What is cashless effect?

Did you know that according to studies, we tend to spend more money if we pay by credit card compared to cash?

This is called the cashless effect.

Parting with physical money when paying with cash causes a pain reaction in the brain, this doesn’t happen when paying with card.

This is because we attribute more value to physical cash, we know beyond doubt that we are giving away something of value. Where as when paying with card it is more abstract. You are swiping a plastic card, instead of giving something physical up.

Logically we know we are paying and giving up money, but it just doesn’t register in the brain in the same way.

These days this includes all the Buy Now Pay Later credit systems, you don’t even have to swipe a card, you just press a button! And you don’t have to part with any money initially.

The phenomenon was discovered in a study in the 1970s

This is not a new phenomenon, for example a study conducted in the late 1970s looked into how different purchase methods affected buying behaviour.

They compared people who paid with cash compared to those who had either store cards or credit cards, or both.

The results were that those who had both store and credit cards would spent the highest amount, then those with a store card or a credit card and those who paid with cash spent the least.

Another study looked into whether just knowing you could pay with credit would change how much you’d be willing to spend.

In the study they had two groups of people, both groups were shown photos of items and asked how much money they’d be ready to pay for the item. Only one of the groups had credit card logos in the photos (they were told that it wasn’t relevant to the study).

The result was that those who saw credit card logos were consistently willing to pay more for each of the item.

The researches concluded that even the option of credit could increase our spending.

How to avoid cashless effect

While I’m a firm believer of there being a time and place for paying with credit, I also believe that it can be dangerous to our financial health if not handled properly.

The easiest way to avoid the temptation is to not have a credit card or Buy Now Pay Later (BNPL) accounts in the first place.

But if you do and want to keep them for those bigger purchases or for any reason (nothing wrong with that!), couple of things could help with impulse spending:

• Keeping credit card somewhere safe in the house instead of in the wallet with you all the time (this could come in handy in case your wallet was lost or stolen!). That way you can avoid those impulse purchases, as you can’t put them on credit unless it has been planned and you have your card with you.
• For online purchases you could consider not saving your card details on websites, that way you always have to go get your card in order to purchase things, which might make you think twice about it.
• You could do similar to your BNPL accounts, create a long password that you can’t memorise, don’t save it on the computer, but write it down and keep it somewhere with your credit card perhaps. That way you will have to go get it in order to use the account which again, might make you think twice about the purchase rather than just mindlessly press buttons to buy things!

How I utilise credit

I currently don’t have a credit card, I used to but closed it when we were trying to get a reapproval for a mortgage. (In New Zealand having a credit card is seen by the banks as potential debt and they will reduce the amount they will be willing to lend to you because of it.)

I have to admit that having it made us spend money that we didn’t really have on things we didn’t really need.

I had a GEM Visa with a 6 month interest free purchase period for any purchase over $250 from any retailer. I think the highest amount we got to was nearly $4000 on the card, and only one purchase was a serious need (a washing machine).

I think I still have maybe an Afterpay and Laybuy accounts but very rarely use them, and if I do, I pay the balance as soon as I can.

You can read more about cashless effect in here. And you can find my post about anchoring (another form of biased behaviour) here.

What do you think of cashless effect? Do you think it affects your purchase behaviour? Share in the comments, I’d love to hear!