In an earlier post I looked at the business side of what I call penny-sucking economics, where significant effects on the economy are made in billions of small-amount transactions. In this part, I will look at the effect of penny-sucking economics on ordinary consumers and its role in rising income inequality.

I first taught classes in consumer economics in the early 1980s, and I would frequently invoke then the phrase “a Coke and a candy bar” to illustrate the effect of incrementally-small spending on long-term consumer financial health. Even today, the amount a person can spend on a daily soda and candy bar from a work vending machine can easily total to more than $700 per year, which is not a trivial amount of money, I would argue, to most American families if they were to have that amount in their hands all at one time.

According to a 2016 Associated Press poll, two-thirds of American families would have trouble coming up with just $1000 to cover an emergency bill. The personal savings rate in the United States, which is ratio of personal savings to disposable personal income, has declined from between 5% and 7% in the 1970s and 1980s to about 3% today, and for many Americans it is negative. Contrary to the common language of the “income inequality” discussion, it is not so much what you earn as a family that determines your lifestyle and subsequent financial challenges, rather it is how much you spend.

If you are spending more than you are earning (and many families are) your net debt at the end of the year is larger than it was at the beginning of the year. Sometimes this might be a one-time anomaly, say the purchase of a house or a new car. But it becomes a big problem if it happens multiple years in a row.

Net negative savings rates

It is difficult to discuss this topic without unintentionally drifting into moral judgment. Everybody is free to make his or her own economic choices, but the save/spend choice gets much harder to make, I would argue, when you are in the bottom half of the socioeconomic spectrum. I recently heard a very rich person comment that you know you are really rich when you can act like “everything is free.” On the other end of the scale, however, “everything is expensive” because the “either-or” economic choice is always present. “Penny-sucking” businesses can, however, make that choice less visible to consumer, even though when you add up the many “Coke and a candy bar” decisions one family makes, the total can be a large percentage of family income.

As I have noted in prior discussions about “The Rule of 72,” you can track much of the greater economic progress of “the owner class” and “the professional class” as opposed to the rest of population in recent decades in terms of long-term returns on personal savings and investments. In short, half of the population has none. This chart is a smoothed version of the last thirty years of income growth in different segments of the population:

I point to three societal events that have significantly “changed the curve” of personal savings rates, lowering them as much as one cent on every dollar at a time.

The good and bad of Walmart

I mentioned in that prior post in this series Sam Walton’s revolutionary “fly close to the ground” financial strategy, limiting net profits to around three cents on the sales dollar in order to keep prices low and to intentionally “crash” the competition. Walton first expanded Walmart into southern and midwestern small towns, and having lived in the rural Midwest “before” and “after” Walmart came, I can attest that the change was dramatic, much more than when Walmart later started building in the suburbs where there was already a lot of consumer retail choice.

On the positive side, lower prices at Walmart meant that previously under-served consumers now had much greater economic choice than they ever did before. On the downside, this new choice caused a decided shift from “saving up” toward an expedited consumption of low-cost household items that were previously not readily available. In addition, traditional clothing, housewares, and grocery stores were often driven out of business in those small towns, now unable to compete.

In net, you can see a rise in short-term consumer satisfaction in the bottom half of the socioeconomic spectrum in those Walmart growth years thanks to greater affordability and choice, but at the cost of a declining savings rate and greater loss of family economic flexibility. Again, note the slippery slope of moral judgment here. It is not so much that poorer people made worse economic choices than families with more resources. Rather, they bear the bigger brunt of consequences of those choices because they do not have the financial cushion required to weather economic storms.

Governor Janklow and the death of usury

Throughout the 1970s, the credit card industry grew significantly in the United States, but the bottom half of the population was largely left out of the trend. State usury laws varied, but in most states, banks were prohibited from charging high interest rates, and thus consumers without a credit history or personal savings were largely seen as unprofitable risks. “Loan sharking,” the lending at high interest rates commensurate with perceived risk, was an illegal activity in most parts of the country.

In 1981, Governor Bill Janklow enticed New York’s Citibank to move their credit card operations to South Dakota in exchange for a loosening of the state’s usury laws. Millions more families now qualified for a credit card, with legal effective annual interest rates on consumer debt rising to well over 20% per year. More financial companies came to South Dakota, eventually forcing every other state to follow suit in loosening maximum interest rates in order to keep banking business from leaving their states.

Again, the results had mixed good and bad effects. On the positive side, “ordinary people” could now acquire more and better household goods, paying for them over time (although at very high interest rates). On the downside, this disguised the “earnings versus spending” balance I noted earlier. People were spending much more than they were earning as outstanding credit card balances increased, mistaking spending for earnings. For millions of people, this got out of control, and net credit card debt rose every year.

The cell phone and penny phone text messages

I was living in England at the turn of the 21st century when cell phone prices first came down in price to within reach of the mass market of consumers. Sales exploded, but especially in Great Britain long-term phone provider contracts were still out of reach of millions of young people and others who had poor credit histories. As a result, the market for per-call and per-text prepaid cards took off even more. In Europe, most of the “top-up card” business was done through “tobacco shops,” small convenience stores that had traditionally relied on cigarette sales for a major proportion of their revenue.

An interesting economic trend developed in these tobacco shops. Sales of top-up phone cards boomed, but per-customer tobacco sales, especially among young people, declined. Surveys determined that young people were choosing to spend their limited disposal income “1p” (one British penny) at a time sending text messages, and (less frequently) more expensive phone conversations, leaving less money available for cigarettes. There was already a social push against smoking going on, and in the “survival of the fittest” world of consumer economics, the “penny text message” consumed a major portion of personal income that would have otherwise gone up in smoke, or even to other family needs.

In the United States, total family cell phone costs now clearly account for more consumer spending than home telephone bills did in the past. We are all dependent on the new technology, and in may ways our lives are better for it, but cell phones can also be big “penny suckers” in family budgets.

Are we really in control of our consumer choices?

In an earlier post, I looked at a classic study on the science behind volition, where consumer choice could be “tweaked” away from selecting from a tray of great-looking fruit to instead selecting from another of chocolate cake simply by the relatively-small stress of making people memorize a seven-digit number as opposed to a three-digit number. Small influences cause small changes in our behavior, and those small changes add up.

In another earlier post, I looked at the widely-held “collective delusion” that “advertising does not work on me.” Most of the internet that we consume is financed, to the tune of many billions of dollars per year, on the reality that we are all the “products” of internet advertisers. Information about our consumer preference “weak spots” has generated its own multi-billion-dollar business, mostly invisible to us. Analyzing the online credit or debit card purchases of most of us would likely reveal a host of “penny-sucking” transactions.

And yet, we continue to hold on to the myth that most people struggling in financial crisis are “bad choice-makers” who could get themselves out of their self-dug hole if they only had our superior choice-making skills. We often give ourselves far too much credit for “rolls of the cosmic dice” that went our way.