a little east of reality

Saturday, January 19, 2008

spending the future

A post from Hazzard introduced me to a useful rule-of-thumb theory (from Money Magazine) on the future value of money. If you multiply the cost of a purchase by ten, you have the approximate amount by which the money you'll have for retirement is reduced, thanks to that purchase. In other words, if I spend $70 on a pair of shoes, I'm reducing my retirement savings by $700. I guess that's worth it if you really need the shoes, but it's certainly a sobering thought if it's the fifth or sixth pair of shoes you're buying that year.

The calculation is accurate for someone 30 years off retirement and whose savings/investment yields an average of 8% per annum over that time. With other circumstances the final amount will change, but the general principle is the same: when you buy stuff you're not just giving up the cost of the item, but also the interest (and the interest on the interest) that money could have earned you over time.

Think of all those people trying so hard to build up their 401k and yet having Starbucks two or three times a day. If only they knew they were sucking away at their retirement $40 a pop, for something they could have made themselves for a fraction of the cost (and a fraction of the suckage).

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