Money Match-Up: Which is the Best Way to Grow Wealth?

Here's the latest post in the Rockstar Finance Money Match-Up series where two money bloggers argue opposite sides of an issue. Today's issue features another interesting debate -- what is the best way to grow wealth? The two options discussed today: earn more or spend less. We'll begin with Erik from The Mastermind Within who says the focus should be on earning more...

Why Focusing on Earning More will Result in a Better Financial Situation

“If only I had a little more money in the bank…” If you are like many others, you want to better your financial situation, but don’t necessarily know where to start. A couple hundred dollars a month would make a world of difference getting out of debt, creating an emergency fund, or contributing more for retirement. How can you make a few hundred dollars extra a month? You could cut your spending, or earn more money. I believe it’s more important to focus on earning more for improving your financial situation for the following reasons:

  • Improved Cash Flow for Managing Life
  • Advancement of Skills for Even Higher Earning Over Time
  • The fact that if you earn more, there’s unlimited upside potential
  • Increased Ability to Take on Risk to Build Wealth

Below we will dive into each of these reasons for why increasing your income will result in a better financial situation. One caveat I need to point out: increasing your income while also increasing your spending in a proportional way is lifestyle inflation and typically will not improve your financial situation. My argument here is presented keeping expenses relatively flat while looking to increase your income.

Improved Cash Flow for Managing Life

Personal finance is the science of managing your money. A good personal finance situation allows you to go through life with money in the bank to do what you want when you want. To get to that situation, saving money in an emergency fund or investment account is necessary, but these accounts can’t be built up in 1 day, 1 week, or even a month. For many people, including myself, there’s a mortgage or rent, utilities, phone bills, child care, student and auto loan payments, and a bevy of other expenses to pay for each month. Simply put, your cash flow is the difference between your income and expenses. By earning more money, you will increase the difference between your income and expenses, and improve your cash flow. With more money coming in each month, it will be easier to manage these expenses and easier to manage the cash flow for you to do what you want with you money!

Advancement of Skills for Even Higher Earning Over Time

“Your level of success rarely exceeds your level of personal development, because success is something you attract by the person you become.” – Jim Rohn In theory, increasing your income and earning more makes sense: your cash flow improves and you are able to do a little more lifestyle-wise than before. But, how do you earn more money? First, a question: I’m a lawn mower and I’m looking for work. Would you rather have me cut your lawn for free, or pay me $20 for each cut? Let me take a guess… you’d love it if I would do it for free! How could I justify charging you $20 per cut? Here’s what I’ll do: I’ll provide my own lawnmower, my own gas. I’ll trim around the corners, and sweep and keep the clippings out of the rocks and mulch. Would that be worth $20? While this is a simple example, the concept is can be applied to your job or side hustle: provide value and you will be paid. How do you provide more value than before? Improving your skills in your job, or adding new skills. There’s a funny thing about learning and improving as well: it sticks with you and can even grow over time. When I graduated from my Master’s program, I had a salary of $63,000. Now, just 3 years later, my salary has increased (a few times) and now sits at roughly $91,000 – all because of my dedication to self-improvement and adding new skills along the way. The best part is my salary should stay constant or continue to rise over time. Become a little bit better today, grow a little more this month, stay consistent, and over time, you will become more valuable. Consistent daily disciplines and efforts will result in MASSIVE success over time. With these massive results, you will be able to get to even higher levels of income, which will further improve your cash flow situation for managing your financial life.

If You Focus on Earning More, There’s Unlimited Potential

Let’s take the example from the last point to the next level. (For simplicities’ sake, I’m purposely going to ignore the fact that we all only have 168 hours in a week and probably have many responsibilities which occupy your time.) Let’s say, this year, you hire me to do your lawn once a week. From cutting your lawn once a week for 30 weeks, I make $600 extra this year. Not amazing, but also more than $0. Next year, our neighbor likes what they see, and hire me to cut their lawn once a week. Now, I’ve increased my income to $1,200 a year through my lawn cutting. If each year I add another neighbor to my lawn cutting portfolio, after 5 years, I’ll be making $3,000 extra a year for by cutting 5 lawns a week. What if I add 2 people a year? That’s 10 lawns after 5 years, or $6,000 a year extra I didn’t have before. What happens if I hire someone to work for me and we add 5 people a year to our lawn mowing service? All of a sudden we are talking about real money! If $20 an hour isn’t cutting it, find a different hustle or start a business. There’s nothing stopping you from making $50, $100, $200, or more an hour if you provide enough value. I think you get the point: income growth is theoretically unlimited, and this will allow you to improve your financial situation in the long term.

Increased Ability to Take on Risk to Build Wealth

In the past, putting your money in bank accounts and CD’s would allow you to comfortably grow your wealth in a safe way. Now, in the 21st century with low interest rates, the only guarantee these products have is the guarantee of losing money, due to inflation, in the long run. To build wealth, you have to take on risk: risk in the stock market, risk in the real estate market, risk in creating a business, or risk in some other investments. With more money coming in each month, you have the ability to be able to play with your investments. What I mean by this is with more money coming in each month, if you want to buy a rental property, or invest in something a little more high risk/reward, you are able to because you know your expenses will be covered. This is certainly something I’ve noticed as my income has increased. Since I know that my expenses are covered, and I’m able to hit my savings’ goals, I now am seeking higher returns through asymmetric bets. While it’s possible these bets go belly up, I know that I won’t be wiped out because my income is at a level where I’m able to comfortably manage my cash flow and ensure my emergency fund is full of cash if need be. If my income was not at the level it currently is, I wouldn’t be able to invest for the future as effectively – potentially making me miss out on the power of compounding over time. With an increased ability to take on risk and expose yourself to the potential appreciation of the markets, you will be well on your way to future wealth and a better financial situation.

Bottom Line: Earning More will Lead to a Better Financial Situation

Personally, I try to live my life with an abundance mindset. Life is not zero sum: You can win, and I can win. With an abundance mindset, I believe I can do anything in the world, become anything, and have anything. With an abundance mindset, I know that you and I can improve our financial situation through increasing our income – there’s unlimited potential on the upside for income, and only a limited amount of money you can cut in spending. Provide value in places you haven’t provided value before and you will be compensated. With a little more money each month, while keeping your expenses in the same spot, you’ll be on to bigger and better things. There are billions and millions of dollars out there in the world today – do you think it’s possible we can skim a little bit off the top and make our financial lives a little better than the day before? ------------------------------------------------------------------ Now let's switch to the Money Wizard from My Money Wizard who prefers to focus on spending less...

Why Spending Less is Even More Important than Earning More

Ah, the old earn more vs. spend less debate. In one corner, you have our entire society, who's convinced the most important key to building wealth is simple: earn more money. The “earn more” fanatics love to tout all sorts of advantages of their focus. They’ll downplay the impact of cutting costs, before making the obvious argument of the century, which usually amounts to explaining how some money is good, so more money must be even better! But despite all their swings around the bush, the earn-more-advocates have a real reason for their undying support. In fact, all of us humans share a similar underlying assumption that, against our best interest, lures us to the irresistible thought of earning more money. The real reason? Money is attractive. It’s sexy. It makes all our dreams come true, so why not focus everything on getting as much of it as possible? It all sounds good on paper, and we come pre-programmed to buy into this notion. (Studies show that humans about to make money have nearly identical brain scans to people high on cocaine.) If you don’t look too closely, you’ll soon find yourself drinking the earn-more Kool Aid. Before you know it, you'll be devoting your life to The Almighty Dollar, sacrificing everything for the next promotion, and clinging to office happy hours in a desperate attempt to win the politics game. Of course, there’s just one tiiiiny chink in the Earn-More Armor. It’s completely bogus.

The Science - Why more money won't make you happy

In 1978, psychologists began interviewing two completely different groups of people for one of the most interesting experiments on human happiness ever conducted. Group A - 22 recent lottery winners. Group B - 29 newfound paraplegics. As you can imagine, the two groups held very different outlooks on their recent life changing events. The lottery winners were ecstatic, and the paraplegics were pretty bummed. Nothing groundbreaking there. But the follow up is where things get really interesting. Within months, both groups reported similar levels of happiness. As it turns out, the lottery millionaires quickly adjusted to their upgraded houses and pricier tastes in champagne. And over time, they actually found less joy from everyday tasks. On the other hand, the accident victims found more satisfaction from ordinary tasks, and were just as optimistic about their future as their lucky counterparts. Since then, scientists have labeled this phenomenon Hedonic Adaptation, which is basically a fancy name explaining that humans are really good at getting used to stuff. I admit, when brought to the extreme of lottery winners and paraplegics, the effect is hard to imagine. But maybe you've experienced a bit of hedonic adaptation of your own?

  • Maybe that latest iPhone upgrade was the coolest thing you ever bought, but within a few weeks, your new phone became business as usual.
  • Maybe you were blown away by your new TV for the first few movies you watched, but a few months later, you hardly even appreciate the upgraded picture quality.
  • And I'm sure we're all too familiar with that fleeting happiness of a new car, which tends to fade over time and give way towards lust for the newer or more expensive model.

Chasing higher earnings is a never ending treadmill

We like to view money in a box. We believe that if we reach a certain number, our goals will be attained, our wants will cease, and our dreams will come true. That sort of thinking completely ignores another scientific truth. Money is relative. On a $50,000 a year salary, you might stress over whether to get the upgraded comfort package in your Honda. On a $50 million salary, that stress is replaced with an internal struggle about whether you can finally afford that private jet you've been eyeing for years. In a world where $4.8 billion solid gold yachts are a real thing (yes, I had to google to make sure that wasn't a typo...) you have to learn to temper your spending, or else your thirst for more will never be quenched. In a world with an endless supply of luxury, we have to recognize an ever present fact: Any amount of money can be spent.  The descendants of Cornelius Vanderbilt famously blew through the fortune of the world's richest man. 78% of NFL players go bankrupt within two years of retirement. Even Instagram's most lavish spender admits that his insane spending can't buy happiness. Why do these people go broke? They never built the foundation. They’re working with a house of cards. They’re building on sand. They’re like The Joker from The Dark Knight, ready to light a whole stack of money on fire because they never learned to spend less. Most people never realize this. Instead, they continue running on that hedonic treadmill, believing the next raise is all they need to relax. Chasing more and more money is a band-aid for a bigger problem. You're treating the symptoms, without addressing the underlying disease. (Speaking of symptoms, psychologists have also been able to identify a direct link between materialistic people and depression.)

Spending Less - The Easiest and Most Effective Way to Improve Your Finances

Look, I’m not one of those ultra-frugal money bloggers who curses down your $5 lattes. In fact, arguing in favor of spending less is an interesting position for me to take, especially considering that I’m the “frugal” blogger with a ridiculously expensive ski hobby, a costly dining out habit, and I even delayed writing this post because I was caught up in a not-so-cheap vacation to Costa Rica. But despite my best attempts at balling on a budget, I know one undeniable truth. Spending less is THE most important aspect of your finances, because it’s the foundation upon the rest of your financial life is built. Getting distracted by the decoy of earning more when you haven't yet mastered your own spending is an exercise in futility. That's like trying to run before you can walk. Or jumping into an advanced graphing calculator before understanding how to multiply. Instead, we need to build the house's foundation before we start choosing the decorations.

The Good News

So far we've established that you can spend any amount of money, and worse, that spending is unlikely to make you happier. Which might sound like a discouraging revelation, so let's get to the good news! The good news? We all have access to the easiest form of passive income in the world. Spending less! Consider this: spending less is the only way to do absolutely nothing while putting more money in your pocket.

  • Want to save on shopping? Don't go shopping. (No crowd battling or stressful decisions)
  • Want to save on groceries? Stick to better portion control. (Less time eating, less time wasted at the grocery store)
  • How about saving on travel? Consider a staycation.  (No stressful airports, ease and comfort of your own couch)

Plus, Spending Less Compounds

I mentioned spending less money acts as a form of passive income, and you might still be scratching your head about that bold claim. But truthfully, spending less money doesn't just stop at a couple bucks saved on a shopping trip. Oh no, each dollar that you save, and each expense that you cut, is directly equivalent to holding income generating assets. Let's consider that a safe yielding bond will pay out 2% per year. What's this mean for the savvy saver? If you can reduce your spending by just $2,000 a year ($167 a month) that's equivalent to holding $100,000 of interest paying bonds! And this effect continues to compound. Once you find yourself spending less, you'll also find this sort of saving tends to become a habit. In other words, spending less also decreases amount of money you need to support your lifestyle. This is huge. It means reducing your expenses has a quadruple whammy effect.

  1. Spending less acts as an immediate income stream, by putting money in your pocket today.
  2. This increases your savings rate, which speeds up how quickly you're able to build your portfolio of traditional investments.
  3. You temper your expectations, which provides a psychological benchmark of enough, keeps you from foolishly chasing happiness with billion dollar yachts, and makes saving money easier and easier over time.
  4. You reduce the amount of income you need for the rest of your life.

I call this compound interest on top of your investments compound interest. By increasing your rate of savings and decreasing the amount of money you need to save, you're widening the gap on both sides. If you're aiming for financial freedom, spending less is the most surefire building block to get there. ------------------------------------------------------------------ So, those are the two sides of the issue. What do you think?