I once asked an Economics Professor to contribute an article to Simple Money Magazine.
My instructions were vague on purpose, “Assume you had opportunity to teach just one economic principle to every person on the planet. What is the one lesson you think is most important for everybody to know?”
I didn’t know what he would choose to write about. But to be honest, I was pretty intrigued to see which principle he would choose.
Want to guess what economic lesson he decided to teach?
Don’t overspend your income? Save every month? Learn about compound interest? How to create a budget?
Nope, none of those.
The ASU Economics Professor wrote about the economic principle of “Opportunity Cost.”
If you don’t know, the technical definition of opportunity cost is “the forgone benefit that would have been derived from an option other than the one that was chosen.”
In other words, with every purchase we make, there are sacrifices we assume—alternatives that we must forgo. Every dollar spent on an item is one less dollar that could have been spent somewhere else.
I loved his decision to highlight “Opportunity Cost” as the one economic principle he most wanted everyone to know. It is a concept that is an important principle for life—especially in an age where consumerism and choice often cloud our judgment.
Of course, it is also a principle that carries weight beyond mere dollars. Because sometimes the purchases we make require us to forgo alternatives that are bigger than dollars and cents.
Take the example of choosing whether to buy a new car or not. On one hand, we can see the opportunity cost very plainly. If I choose to use my money to buy a new car that means I have less money left over for a vacation or new furniture or new clothes. But, if I have those things already, the opportunity cost seems slim.
Not to mention, there are advertisements, all day long on television, encouraging me to buy the new car. It will be adventurous, it will be flashy, it will draw attention, it will bring luxury into my life… it will spark new and amazing outings with my family that I apparently couldn’t take in my old car.
The decision quickly becomes an irresistible one. I want the new car and am willing to part with the dollars. The opportunity cost is worth it, I convince myself.
But what if the purchase of that car brings more than a new set of wheels into my driveway? After all, unless I am paying the full-price in cash, it will also bring a monthly car payment.
And debt, especially for a depreciating asset like a new car, becomes a constant burden. The immediate gratification of driving a new car off the lot is quickly overshadowed by the years and years of monthly payments, the interest, the insurance, the depreciation, and the stress of now needing to maintain something more valuable.
In this scenario, the “cost” of the vehicle wasn’t just the sticker price and terms of the car loan, it also cost me a measure of peace. The “opportunity cost” was more than just what items the dollars could have been spent on economically—the opportunity cost also included my well-being.
And, as the old saying goes, “Anything that costs you your peace is too expensive.“
In this scenario, I had to give up something potentially more valuable than dollars. I had to sacrifice calm, peace, financial freedom, and the satisfied feelings of knowing the car I drive is fully paid for.
Now, this isn’t to say that there is never a time when a vehicle needs to be replaced. It’s just to say: Given the options, it’s often better to drive an old car with peace of mind than a new car burdened by stress and debt.
And of course, the application of this principle extends far beyond the driveway. We see it all around us.
Almost every day, we are presented with opportunities to spend our money on more and newer things. And while not every purchase may require a loan like a new (or used) car, the cumulative effects of those financial decisions begin to play a significant role in our lives.
Consider these examples:
Smartphones. Every year, new models tempt us with slightly better cameras, marginally faster processors, or just a cool new color or design that everyone seems to want. Many people do choose to make a monthly payment on these devices. But even if you don’t, is buying a newer phone really worth the price every year—or even every couple years? Especially if there are other debts you are currently repaying? Wouldn’t it be better to use an older phone and get out of credit card debt than buy a new one?
Homes. The average American home has tripled in size in the last 50 years. They continue to get bigger and bigger. And we continue to buy them—despite homes becoming less and less affordable. But just because the bank pre-approves you for a mortgage loan doesn’t mean you need to spend the entire amount on your purchase. It is important to also ask, “What amount of my peace and life am I sacrificing just to live in a bigger house?” Wouldn’t it be better to live in a modest-sized home and experience more freedom than buy a big one?
Entertainment. A financial advisor once told me, “Most people who are struggling financially do so because they have overspent in one of three ways: 1) Too much house, 2) Too much car, or 3) Too much entertainment.” By entertainment, he meant the broadest definition (restaurants, vacations, alcohol, shows, sports, events). Restaurants and trips and shows are certainly enjoyable—and there is no shortage of them available to us. But if the opportunity cost is getting ahead financially, is it worth the expense? Wouldn’t it be better to find simpler forms of entertainment and no longer stress about money than spending money every weekend on entertainment?
We live in a society that confuses success with material wealth. In that world, fancy cars, big houses, and the latest gadgets are always worth the price. After all, that is where the good life is being lived.
But deep-down, we know better than that and want something different. We want to live responsible lives. Not in debt, but within our means.
To accomplish that, we must actively and intentionally wage war against the temptations to accumulate that surround us every day.
And one way we do that is to count the opportunity cost of every purchase. Not just in terms of the dollars that could be spent elsewhere (although that is a concern). But also in the peace and freedom we sacrifice in every purchase.
I don’t know about you. But I’d much rather live in peace with less, than stressed-out with much.
Ashley says
Been driving a Toyota rav 4, with our family of 5 for 12 years.
Bought it used. Paid it off within the first year and have been driving it ever since.
2007- 402,000km
Change will be coming, it won’t last forever. But we have appreciated it for everything it has given us the last 12 years.
Larry says
I presume that you meant to type “vicious”, rather than “viscous” LOL! Sorry for your terrible experience, and for the fate of the dog, who was an innocent creature who deserved better…
J-F says
The capitalist system does everything to convince us that each of us can live like kings. As soon as we adhere to this idea, we become its servants.
Anne says
Great article. It is funny how people will be jealous when I tell them I’m debt free, aside from my mortgage, but they’re never jealous of my old car. It’s currently 19 years old, was used when I bought it and has been paid off for over ten years. It still runs and I’m not looking forward to buying a new one when necessary, but I’m saving money now to minimize how much, if any, I’d need to borrow to buy the next car.
Mary Jane Hostetler says
I love your Becoming Minimalist emails and am enjoyably becoming so. My 92-year-old sister had a cobalt blue 2014 Dodge Dart with 13,000 miles on it. A year ago she gave it to me since she could no longer drive. I turned in the Honda SUV I was leasing for $300 a month, I had the Dart detailed and now it looks brand new. With its low mileage, it runs like a charm. As I gradually and steadily donate more and more of my “extra stuff” (clothes, shoes, dishes, blankets, towels, etc.), I feel lighter and freer.
Judy says
It’s like animals too. I’d rather rescue a fur baby who needs a forever home than pay hundreds of dollars for a designer mutt. All my rescue dogs were free ( I voluntarily gave a $100.00 donation)! And they were the best dogs ever. My ONE puppy that I actually paid lots for with paperwork and quality bloodlines turned out to be viscous, even though he was raised with nothing but love. Had to be put down and it was awful. He attacked randomly. I understand about wanting paperwork etc-
Just using this as an example and share my true story.
John P. Weiss says
We sold our bigger house with a pool for a smaller house with no pool but a nice view of the mountains. We use all the money we were pouring into pool maintenance and energy costs of the old house for travel and investment in books and ongoing education, which support my online business as a writer.
Joanne says
Most repairs on an older cars are lower than a car payment. 2008 used PT
Cruiser
rose torres says
When I paid my new car debt, I swore never to buy a new one again, in fact I’m keeping my old car forever 😂
Jen says
This happened to me purchasing an iPad. I recently graduated from uni and got a credit card. After looking at it for years on my bill, I swore to myself not to be in same situation. And I’m keeping it forever too!!! :D It’s been a decade since.
Lauren says
This is a principle I have known about for a long time. It’s a darn good one too. I use it a lot. For example, stopping all dining out during Covid made me see how little I cared about it so I have cut out all dining out of any kind and I found money to both save and to use on a housecleaner every other week. I love a clean, clean house but deep cleaning is not something I can do any more. So what was once a luxury has become a necessity and it actually costs me less than dining out once did. It lasts longer and gives me much more pleasure in my home as well. And it’s not the only exchange I’ve made either. I love opportunity costs!
M says
Years ago our mortgage broker about fell out of his chair, we chose a house based on how much we wanted to pay out each month, not on how much we qualified for overall.
So what if our nest is small, there is freedom in paying off a mortgage early!