Several years ago, I wrote a post called Happiness is an Early Retirement. I wrote about the things that studies have shown improve our happiness and it turns out early retirement can facilitate each and every one of them.

One thing early retirement does not give us, though, is more money. The relationship between spending and happiness is not a linear one (we don’t make ourselves incrementally happier with each additional dollar spent). There is a point of diminishing returns.

That doesn’t mean there is no relationship between spending money and happiness. To the contrary, wise and targeted spending has been shown to improve our well-being, but you have to know where and how to spend that money.

Dr. James Dahle stops by today to tell us where our hard-earned dollars should go to have the greatest impact on our happiness. This post was originally published on The White Coat Investor.

Spend Money On What Makes You Happy

I’ve mentioned before how it is important to really take a hard look at your spending and make sure you are spending your money in a way that maximizes your happiness.  For instance, some people really enjoy traveling, others are “car people” and want the latest sports car, while still others derive more happiness from giving to charity.

What I see far too often is people spending money almost unconsciously or worse, just to keep up with the Joneses or to project the lifestyle you think you should have as a doc.

A study was recently published in a psychology journal about money and happiness.  It gives eight tips on how to maximize happiness through spending money.  Let’s look at them one by one.

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8 Tips for Spending Money on What Makes You Happy

#1 Buy experiences instead of things.

It turns out that there are a lot of studies out there that document this well.  The happiness from buying things supposedly only lasts a few weeks, whereas you can reflect for years about experiences.

I find this to be true in my own life and find it easy to spend on travel and fun, yet hard to spend even small amounts on buying things.  Perhaps that’s why we still don’t own a dining room table yet have taken a dozen road trips in the last year.

#2 Help others instead of yourself.

A 2008 study shows that the more money you spend on others instead of yourself, the happier you were. In fact, the data on this point is robust.

Yet, many people assume that spending on themselves will make them happier.  There’s a real disconnect there.  Personally, I seem to really enjoy spending money on shared experiences with others, like travel, camping, or climbing.

#3 Buy many small pleasures instead of a few big ones.

It turns out that happiness is more strongly associated with the frequency than the intensity of people’s positive affective experiences.  One example in the paper is that two brief massages provide far more pleasure than one long one.

The goal is to avoid “hedonic adaptation”, i.e. getting used to a pleasure.  It turns out that pleasurable experiences maximize novelty, surprise, uncertainty, and variability.  This delays adaptation as much as possible.

#4 Buy less insurance.

It’s well-documented in the behavioral finance literature that losses hurt much more than the equivalent gain provides pleasure.  Because of this, people buy unnecessary consumer insurance all the time.

Interestingly though, “people seek extended warranties and generous return policies in order to preclude the possibility of future regret, but research suggests that the warranties may be unnecessary for happiness and the return policies may actually undermine it.”

It also turns out that our “psychological immune system” is a lot better at dealing with tragedy than we give it credit for.  We might greatly fear loss of a job for instance, but it turns out we readily adapt to those circumstances psychologically.

I suspect insurance salesmen prey on this tendency all the time to get us to buy more insurance of all types.

#5 Pay now and consume later.

It’s been standard financial advice for years to save up for something and pay cash for it.  However, the usual reason for it is to minimize finance charges, not to increase happiness.  But it turns out that the anticipation of an event provides a large percentage of the actual joy of doing it.

Aside from the anticipation, you also get more pleasure from paying now and consuming later because you tend to choose things that provide more lasting happiness (nutritious food vs donuts) and you create uncertainty, which as we’ve seen above, counteracts adaptation.

#6 Think about what you’re not thinking about.

When we anticipate events in the future and forecast the pleasure we’ll get from them, we gloss over the mundane details that often are the determinants of happiness associated with the event.

The example the paper uses is the decision to buy a small, well-kept home, or a large fixer-upper.  When we buy the house, we tend to think the bigger home is a better deal, but we don’t think about spending Saturdays with plumbers instead of our friends for the next few months.

#7 Beware of comparison shopping.

“The comparison shopping facilitated by Amazon offers obvious benefits to consumers, who can find the best deal on the product most ideally suited to their needs. But recent research suggests that comparison shopping may sometimes come at a cost.

By altering the psychological context in which decisions are made, comparison shopping may distract consumers from attributes of a product that will be important for their happiness, focusing their attention instead on attributes that distinguish the available options.”

Make sure you also compare the details that actually determine happiness.  Consider my Dodge Durango SUV.  When I bought it, I was very pleased with the price I got and I was glad I could haul what I wanted and that I had four-wheel drive to get to the ski resort.

But every week or two when I fill it up, I experience a little tinge of regret when I realize how rotten its mileage is.  I don’t think so much about that great deal I got on it, I think about the $75 I’m shelling out for gas.

#8 Follow the herd instead of your head.

Markets are wonderful things, and just as they are better than you are at determining the price of an item, they are also better than you are at predicting what items will make you happiest.

The example in the article was selecting a movie to see.  It turns out you’ll be more likely to enjoy a movie that others enjoyed, than to do all kinds of research trying to determine which movie you’re going to enjoy most on Friday night.

What most impressed me about this paper was just how much research has been done about happiness, particularly consumer happiness.  Just as most investors are ignorant of the professional investing literature, so are we ignorant of the literature on personal finance and happiness.  Hopefully, you can apply some of these lessons to your next purchase.

How do you maximize your happiness when spending money? Do you agree with the findings of this study? Comment below!