Posted by: twotrees | January 13, 2015

When 1/2% is bigger than 10%

National Public Radio percentagethis morning discussed a recent study  by the Consumer Financial Protection Bureau that shows that 75% of new home buyers only fill out one loan application when buying a home.  In other words, they don’t shop around.  That’s odd because most people will make a buying decision or change a habit for as little as $5 but when it comes to savings hundreds or thousands of dollars over time, they are less motivated.

This has something to do with the Weber-Fechner Law of Psychophysics says that the ‘just-noticable difference between two stimuli is proportional to the magnitude of the stimuli.’  In other words saving 10% on a pair of shoes might stimulate people whereby saving a half percent on your home or car loan may not.

Over time, most people would agree that a half point on a $200,000 loan amounts to thousands of dollars saved.  But because it’s over a long period of time, it’s less perceptible.

This is a great opportunity for lenders to educate consumers that small things can really add up.

This theory is not limited to buying things – it also applies to saving money – the difference between a 5% and 8%  rate of return on your investments could mean the difference of when and if you can afford to retire.  Financial literacy is generally not taught in our schools, which is why so many Americans run into money problems sometime during their adult lives.  If we were to change that, our whole society would benefit.  It’s that the best idea?

 

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Responses

  1. With mortgages taken over a particular consumers lifetime usually in the single digits it does not surprise me that home buyers don’t shop around. For the newbies they tend to go with what their agent recommends and why wouldn’t you. As for the seasoned veterans they tend to go with where the bank or a past relationship. Very rarely have I seen a buyer willing to shop around for the best rate. When talking about such a huge sum of money at stake it is an interesting paradox that we tend to go with the first frog we kiss.


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