Many of us who blog on personal finance tend to write a lot about frugality. It’s been a salient topic over the last few years, with the economic pressures that have disrupted the financial lives of millions of people. Frugality, as such, has gone from being socially unacceptable to almost de rigueur. Being frugal has become cool in some circles. Cut expenses to the bone, live on less, and save your way to financial bliss!
I do agree with the idea that cutting expenses to live within one’s means is very important. Additionally, the world is chock full of examples of average wage earners who have been very disciplined with saving a healthy percentage of income, leading to a very comfortable retirement and in many cases, financial freedom.
That said, I also think that it’s important to take a holistic view of personal finance and look beyond the realm of saving money. While frugality is a great thing, we also need to earn money in order to have any to save. And more important than that, what is the role of money in our lives, taken in the broader context of other important aspects of our existence?
Starting with the broad view, I like to look at money as being a part of the HWR framework – health, wealth, and relationships. Each one is an important part of our lives, and each one impacts the other. For example, if you improve your health by getting in great shape and improving physical endurance and mental alertness, you’ll put yourself in position to earn more. So money, while not an end goal (at least for me), is a part of the whole quality of life equation. Financial freedom, while not panacea for all our problems, would likely improve quality of life, all other things being equal.
Now, diving further into the topic of money, let’s examine how we can get closer to the point of achieving financial freedom. Again, given the attention many people (including me, admittedly) devote to frugality, one would almost think that it’s the concept that can most drive our wellbeing, as long as we adhere to the principles of living within our means.
There is some truth to that, to be sure. But there are two things at play here:
- Bringing in revenue
- Managing expenses
I can relate it to marketing and finance in the corporate environment. Without the innovative, hard work of those in marketing, there wouldn’t be revenue coming in the door. Without the folks in finance, expenditures would be too high, and money couldn’t be reinvested in the business or paid to shareholders.
In our lives, it’s our career that is the engine that drives our personal finances. You could pinch every penny possible, but if your career goes down the drain and disappears, you’ll be left scrambling. You might have to dive into that emergency fund – which, ironically, might have been funded by your career to begin with! Ultimately, what we want to do is maximize the income to expense gap.
To that end, in addition to managing expenses, I recommend investing time, energy, and focus in your career. Aside from an inheritance or other source of outside income, it’s the best place for people starting from scratch to begin to build their financial future and grow income. If you don’t invest in your career, you’ll have little stability and irregular financial income. If you do invest in your career, that could still be the case due to circumstances, but at a higher level of income. If you do it well, and get some good luck and fortune along the way, you have the means to build a nest egg.
That brings me to the next part – saving. By minimizing expenses, you can put yourself in a position to live within your means. Living within your means requires discipline, and the ability to distinguish between wants and needs. Actively managing expenses will allow for one to maintain a given level of expenses, with annual inflation adjustments.
By actively managing both career (cash inflow) and spending (cash outflow), we can increase the income minus expense gap. This gap equals savings. Once we have money saved, we can start investing and earning an after-tax rate of return that exceeds savings. Doing this early enough, with a good asset allocation, will allow us to grow our wealth.
The key concept: it’s all a system, with money just one part of quality of life – and with regard to money, it takes focus on both cash inflow and cash outflow to put us in position to drive toward financial freedom.
What are your thoughts? Do you follow a similar framework when it comes to your approach toward money in your life?
This article was included in Carnival of Personal Finance #263 at Suburban Dollar.