How to Make Saving Decisions Like an Economist

How do you decide how much you should be saving versus spending? Do you have a favorite rule of thumb, such as saving 10-15% of your income, or do you aim for a certain amount each month? Maybe you just save what’s left of each paycheck. 

Rules and habits exist for good reasons. They’re quick, simple, and help you start saving without overthinking. But they often overlook the broader goal and fail to consider the bigger picture. 

Rules of thumb only go so far

Most rules of thumb focus only on what to save from this paycheck, not how to plan for saving across your lifetime. They do not reflect the complexity of real financial lives, let alone the rest of your life! They fail to incorporate your current resources, future income expectations, goals, or age. 

By leaving out these important pieces of the puzzle, we risk saving far too much or far too little to achieve a steady, comfortable lifestyle over time. Because that’s the goal, isn’t it? The goal is not to be the perfect saver, maxing out our retirement accounts and hitting arbitrary targets. The goal is to make the most of our money over the course of our lives. 

Economists think about savings differently

Economists call this ‘consumption smoothing.’ This principle means planning your saving and spending with the confidence that you can maintain a similar standard of living throughout your life, rather than dealing with cycles of abundance and scarcity. The approach begins with a clear intention: to maximize and sustain your lifestyle over time. It’s not about choosing between feast or famine. It’s about understanding that you have a limited number of resources, planning with the bigger picture in mind, and working backwards to find optimal actions for today. 

Rather than starting with your desired future income, as most calculators do, economists begin by assessing your current assets and expected future resources. Economic research suggests that calibrating savings to achieve steady spending is more effective than saving a fixed amount or percentage of income. 

Your life is dynamic – your savings should be too. 

What does this mean in reality? It means there are times to save decisively and times to spend with purpose. In some seasons, it’s optimal to spend from savings or save less, while in others, it’s best to save more.  

Consider asking yourself questions like: Do I expect any major life changes soon, such as having a child or buying a home? These short-term cash needs may mean prioritizing short-term savings to help fund those events rather than setting money aside for retirement. Is my income stable, or do I anticipate a significant increase? If you are expecting a large increase in income (perhaps from starting a new job), plan to save more when your income rises. The same applies if you have recently paid off a significant debt, such as a student loan or mortgage. Have my investments performed better than expected? This might mean you don’t need to save as much to reach your goal. Recognize these patterns and trust your plan. If you want a precise number, calculate it using software or consider working with an economics-based financial professional to create a tailored savings plan.  

Thinking like an economist > rules of thumb 

These ideas are not new. Unfortunately, despite nearly 70 years of economic research, this nuanced approach is not widespread. Popular advice today espouses saving early to create a habit and take advantage of compound interest, but as we’ve learned, this isn’t always optimal. While habits are valuable for establishing consistency and building financial discipline, it’s crucial to adapt them to the different stages of life. Making saving decisions like an economist means saving according to your bigger picture. It means spending and saving in a way that truly fits your life.

Taylor Nelsen is an Accredited Financial Counselor® and Founder of The Financial Planner, which provides tailored financial plans for the 99%. Visit Taylor’s FindAnAFC profile to view her services. Also, connect with her on LinkedIn and learn more on Substack.