How the bias works and how to avoid it
What is it?
The bottom dollar effect describes our tendency to feel more pain when we spend the last of our money and to derive less pleasure from what we’ve bought.
The seminal study
The bottom dollar effect was discovered by Robin Soster, Andrew Gershoff, and William Bearden in 2014. In their first experiment, participants were asked to imagine that they had bought credits to spend on three 2-minute movies that cost 10 credits each. One (control) group was given 50 credits, meaning that the three movies did not deplete their resources, and one (experimental) group was given 30 credits, meaning that their last purchase would signal the end of their credits.
Everyone was asked to choose three movies, watch them, and rate them on a scale of 1–9. The participants whose purchases had exhausted their budgets rated the third movie nearly a whole point lower on average than those whose budget hadn’t run out. Both groups were equally satisfied with their first and second movie picks, meaning that the dissatisfaction felt by the members of the experimental group had to be related to the fact that their final movie purchase had exhausted their budget.
Several follow-up experiments established that the effect is more pronounced among those who have earning difficulties. When participants were nearly out of money and found it very difficult to earn credits, the pain of paying increased and so did their dissatisfaction with the movie they bought with the last of their credits. However, in an unexpected twist, when participants found earning credits to be very easy, those whose budgets were exhausted with their last purchase were more satisfied with it than those who still had credits left over. Finally, people who thought that budget replenishment was a long way off felt the pain of paying, but being told that one “would receive $60 ‘tomorrow morning’” immediately took the pain away.
How it works
Parting with money is often psychologically painful. But while parting with money for any kind of purchase can hurt, the pain of paying unquestionably increases when our budget is close to zero. Consequently, we are more likely to feel bad about the purchases we make when we feel broke because we associate more pain with them.
One of the reasons behind our pain may be something called opportunity cost. This is the potential loss from a missed opportunity: if you spend money (or time, or any other resource) on one thing, it’s no longer available for another. 10 dollars and 2 hours spent on one movie is 10 dollars and 2 hours you can no longer spend on anything else.
When you have plenty of money (or time) you tend to ignore opportunity costs because you feel as though you have enough resources at your disposal. But once you get down to the last of your resources, you’re much more likely to think about all the other things you could have done with them. That sense of lost opportunity then colors your view of whatever you spend your money (or time) on, making you feel less satisfied because it represents a loss of other possibilities.
Adding to our woes, the bottom dollar effect is exacerbated by our tendency toward “mental accounting”. This is our propensity to keep mental “buckets” or “accounts” for different sources of income — like “regular income” and “windfall” — and outflows — such as “food”, “clothing”, and “rent”. We also tend to use our mental accounts as budgets, allocating resources for specific costs before they’re actually incurred. Unfortunately, the bottom dollar effect occurs when our purchases deplete our remaining funds in any mental account.
How to avoid it
The bottom dollar effect makes us likely to overspend when we have a lot of resources and be too stringent when we don’t have much money left. So, when you’re feeling flush, remember to think about opportunity cost — many of us don’t do it often enough. This tends to make cheaper options more attractive than expensive options.
You can take some of the sting out of your spending by not having too many mental accounts. Although having some kind of budget is better for your finances, having budgets for housing, food, clothing, entertainment, car expenses, and phone bill gives you six potential scenarios to reach the bottom dollar of your budget. A more general budget could help with that.
If you’re planning to make a large purchase, your best move is to wait until you’re as loaded as you’re going to be, or at least to wait until you know that your budget is going to be replenished; spending your last dollar on a Sunday will feel less painful if you expect a paycheck on Monday. And if you’re saving up for something, consider saving a bit more than the price of the item, even if it means waiting a little longer. This way, your account won’t be depleted and you’ll be happier with your purchase.
Be careful with your credit card; it can increase the importance of the bottom dollar effect. This is because when you buy something with it, you tend not to feel the pain of paying — a phenomenon known as the “cashless effect” — because you won’t have to pay the credit card bill until later. But when it comes, it tends to be at the end of the month which often coincides with the last of your budget.
Finally, should you decide to go ahead and spend your bottom dollar anyway, spend it on stuff and not experiences. Research has shown that, when people are facing financial constraint, they’re more concerned about the longevity of their purchases, which increases their preference for material goods over experiences. So people who spend their last $10 to purchase a movie are less satisfied than those who spend their last $10 on summer shoes.
We may all suffer some psychological discomfort when we spend our resources, but we also derive pleasure from consuming; the trick is to make sure that the pleasure outweighs the pain.