Chapter 4: Basics of Financial Psychology

by Ekta Vikram

No one ever has been completely sensible, when it comes to financial decisions. We make budgets, yet splurge irrationally. We spend too much money carelessly or in excitement, or too little out of guilt.  According to psychologists, we have a complicated relationship with our money.

But you can learn to  manage your money, irrespective of your financial condition? Understanding the psychology of Financial Planning has all the potential and can be your new best friend.

What is Financial Psychology?

Financial psychology understands the reason behind the financial decisions. It analyzes human behaviour which impacts their financial habits. This helps in analyzing people’s financial actions.

It also helps to understand how the financial environment affects us. In turn, we can learn to control our finances, instead of being controlled by it. One can identify the unhealthy patterns of irrational financial decisions, such as compulsive shopping or problem debt; and work towards overcoming bad financial habits.

The key factors about psychology impacting our financial decisions are:

  • Financial decisions can be hugely governed by emotions.
  • Anxiety and avoidance leads to bad financial decisions leading to more anxiety. It's a vicious cycle.
  • Family psychology about finances and childhood influences play a big role in financial behaviour.

Benefits of Financial Psychology

Your financial personality reflects how you view money and how you live. It also reflects your financial attitude influencing your financial behaviour. Knowing your financial psychology can help you change your financial situation for the better. There are benefits of applying the principles of financial psychology. It can help you with the following:

  • You will be able to make smarter investments. That would in turn, help you get a higher return on your investments.
  • You will identify the decisions that are bad for you financially.
  • You will overcome financial obstacles.
  • Long term financial planning, careful investments and keeping a tab on expenses will be beneficial in the long run.

Financial psychology will help you teach how to become a smart investor. No one said it's an easy task, but the journey of a thousand steps also starts with the first step. It enables you to understand your relationship with your finances and which path will be most beneficial.