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Be Aware of Reference Groups.

by J. Money on Monday, August 3, 2009

Reference GroupsThis is a guest post by my man Blake Shultice.

Do you feel as if you make highly independent financial decisions, free from the influence of others?

If you do, congratulations – you are in a very slim minority. For the rest of us, our decisions are affected to an extent by what sociologists refer to as ‘reference groups’. My favorite source for information in the world, Wikipedia, describes reference groups in the following way:

“A reference group is a sociological concept referring to a group to which an individual or another group is compared…It becomes the basis of reference in making comparisons or contrasts and in evaluating one’s appearance and performance…Reference groups act as a frame of reference to which people always refer to evaluate their achievements, their role performance, aspirations and ambition.”

Simply put, our peers seriously influence our beliefs and behaviors, whether we consciously realize it or not. To determine the value of our own lives, we must have a standard with which to compare. Reference groups provide that standard. We compare our situation to that of our family, friends, coworkers, and neighbors. Naturally, we don’t want to be living below the standards set by our peers.

While reference groups can have positive effects on how we live, they certainly can have harmful ones as well. Here are a few instances where that is the case.

1. ‘Keeping up with the Joneses’

Usually, there won’t be a vast difference between the economic situation of our neighbors and ourselves. As a result, it’s easy to feel inferior as they seemingly improve their material well-being. If none of our neighbors have ski-boats, it’s likely that we are content with not having one either. If on the other hand it seems as if purchasing ski-boats is becoming commonplace on this block, we may feel as if we need to keep up.

2. Workplace

Those who we work with influence our consumption habits. Let’s say you’ve just graduated from med school and landed a position at a local hospital- that’s great! The one problem is, it seems as if all your coworkers drive expensive, mostly European, vehicles. Your 12-year old Toyota Corolla with 3 hubcaps missing and a dent in the hood (J: Hah!) looks seriously out of place next to all the fancy rides, and you may even get a snide remark or two about it.

You know that upgrading vehicles will violate the financial standards you maintain, and before the promotion you were perfectly happy with your reliable old Toyota. Now all of a sudden you feel out of place with your frugal transportation, and the pressure to trade up is probably growing.

3. Friends/family

Like the other groups described above, we will generally tend to have similar economic situations with our friends and family. Aunt Martha may have a net worth of 8 figures, but we’ll recognize the vast difference between her situation and ours. When we know that our friends and family have incomes similar to ours though, we’ll compare our material differences, and likely be influenced by what we observe.

The problem with gathering information from others in this way is that we only see a small part of the entire picture. We can only see the tangible differences, such as our neighbor’s new Audi vs. our old Pontiac. What we don’t see is this; in all likelihood our friendly neighbor financed nearly the entire vehicle. His ride may be a heck of a lot sharper than ours, but our maxed out IRA trumps the nickels and dimes he has saved for the future (if any at all). Even if that isn’t the case, it helps to assume that it is.

For quite a while the U.S. had a negative savings rate. In light of that fact, I’d say reference groups have had tremendously horrid consequences. Basically, we had a whole country of people comparing their material lives to others and sacrificing basic common sense to keep up. It’s pretty sad that so many try to chase happiness in such a counterproductive way.

It’s often easier said than done, but we need to recognize the effects of reference groups and try to make more conscious decisions. By collectively working to make the best choices for ourselves, incorporating and balancing both our current wants and needs with our future well-being, we could obliterate our financial problems.

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*J. Money’s at the beach right now, but he hopes you enjoyed this article! He’ll be checking in on you fools every now and again, so make sure to give my boy Blakesome good lovin’. Blake writes over at Shultice Financial, a blog dedicated to building a healthy relationship with money.


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