Norms & Numbers

The Influence of Social Norms on Financial Decision Making

In the dance of daily life, social norms often play the role of an invisible yet powerful choreographer. These unwritten rules guide our behaviors, shaping everything from relationships to shopping habits, and even financial investments. Let's explore how these norms operate in various domains and the psychological mechanisms behind their influence.

When it comes to relationships, social norms dictate a myriad of behaviors. Picture yourself at a romantic restaurant, about to propose. Society insists that you should kneel, even though you’re wearing white pants and there’s a puddle of marinara sauce under the table. Why? Because society has decided that’s the "proper" way to propose. Ignore it, and you risk appearing disrespectful or uninterested. The funny thing is, when I said this, I bet only my male readers actually pictured themselves.

Our shopping habits are similarly influenced. Ever notice how people tend to buy the latest smartphone model even if their current one works just fine? This is a social norm at work, pushing us to conform to trends and avoid the dreaded label of "outdated." It's like high school all over again, but with pricier gadgets.

When it comes to financial investments, social norms can be particularly influential. Consider the pressure to buy a house because "renting is throwing money away." This belief is so ingrained that people often rush into homeownership, ignoring other potentially smarter financial options.

So, what are social norms?

In essence, they are the accepted behaviors within a society or group. They act as the invisible handcuffs guiding our actions, often without us even realizing it.

In the realm of psychology, social norms significantly impact our mental and emotional states. When we conform to these norms, our brains reward us with dopamine, the feel-good hormone. It's like getting a gold star in kindergarten, but for adults. Conversely, defying social norms can trigger stress and anxiety, thanks to the brain’s release of cortisol, the stress hormone. This biological cocktail pushes us towards conformity, lest we face the uncomfortable feelings of shame or embarrassment.

Now, as always, let’s take a walk down memory lane, shall we?

For centuries, the practice of foot binding in China exemplified the extreme consequences of rigid social norms. Beginning in the 10th century and lasting until the early 20th century, foot binding was driven by the belief that small feet were a symbol of beauty and social status. Young girls were subjected to this painful and deforming process to ensure they would be deemed attractive and marriageable. Despite the severe physical and psychological consequences, including lifelong disability, the social pressure to conform to this norm was overwhelming. It wasn't until the early 1900s that efforts to abolish foot binding gained momentum, reflecting the enduring impact of such deeply ingrained social norms.

Victorian corsetry in the 19th century is another example. Women wore tightly laced corsets to achieve an "ideal" hourglass figure, often at the cost of their health. The practice deformed ribs, displaced organs, and made breathing a chore, all for the sake of societal approval.

Similarly, smoking was once widely accepted and even glamorized, particularly during the mid-20th century. From the 1940s to the 1960s, social norms and cultural portrayals depicted smoking as sophisticated and desirable. Advertising campaigns and media representations reinforced the idea that smoking was fashionable, leading many people to take up the habit despite its health risks. This widespread acceptance contributed to significant public health issues, as smoking rates soared, and the detrimental health effects became more apparent. Over time, as the dangers of smoking became undeniable, public perception shifted, and smoking rates began to decline. However, the legacy of this norm has left lasting public health challenges, with many still struggling with smoking-related illnesses.

Or on the financial side for instance, the dot-com bubble of the late 1990s is another striking example of how social norms and herd mentality can lead to disastrous financial decisions. During this period, the internet was a burgeoning field, and the hype around it led to a massive influx of investments in internet-related companies. The prevailing social norm was that investing in these companies would yield substantial returns, driven by the fear of missing out (FOMO). Investors, eager to capitalize on this new trend, poured money into internet stocks without thorough due diligence. The bubble burst in the early 2000s when it became evident that many of these companies were overvalued and lacked viable business models, leading to a significant market crash and financial losses for countless investors.

Now that we've seen how social norms have historically nudged us into some pretty questionable behaviors, let's dive into how they continue to make our financial decisions just as thrillingly misguided.

Social norms also significantly drive the so called "pump and dump" schemes, where initial promoters hype a stock through social media and online forums, creating a bandwagon effect. Investors, influenced by the fear of missing out and the desire to conform, buy into the artificially inflated stock. Once the price peaks, the promoters sell off their shares at a profit, causing the stock to crash and leaving late investors with substantial losses. This manipulation exploits social conformity, showcasing how deeply ingrained norms can lead to detrimental financial decisions.

In today's society, the pressure to maintain a certain lifestyle has led many individuals to rely heavily on credit cards, often resulting in significant personal debt. Particularly in the late 20th and early 21st centuries, social norms have promoted the idea that owning the latest gadgets, wearing trendy clothes, and dining at fashionable restaurants are markers of success and social standing. This relentless pursuit of a consumerist lifestyle forces people to spend beyond their means, using credit cards as a convenient but dangerous tool. The convenience of credit cards, combined with aggressive marketing tactics by credit card companies, exacerbates this issue. As a result, many individuals find themselves trapped in a cycle of debt, struggling to keep up with high-interest payments and accumulating more debt in the process. This behavior not only impacts their financial stability but also affects their mental health and overall quality of life. Research has shown that people who have high credit card debts are 20 times more likely to attempt suicide than those who do not experience this type of stress. Additionally, a report noted that the average American is $52,940 in debt, including credit card debt, money owed for mortgages and leases, personal and medical loans, and student loan debt, highlighting the widespread nature of this problem.

Speaking of student loans, about 45 million Americans hold student debt, totaling $1.76 trillion. The average debt per borrower is nearly $30,000. Despite this, only a small percentage of graduates pursue careers directly related to their fields of study. This mismatch, combined with the significant financial burden, exacerbates the economic stress faced by many graduates

Another honorable mention would be the wedding business: societal pressure for the perfect wedding has led many couples to start their marriage with substantial debt. The expectation for expensive engagement rings, lavish ceremonies, and exotic honeymoons often results in couples spending tens of thousands of dollars they don’t have, relying on loans and credit cards. This financial burden can create significant stress and even lead to breakups, ironically caused by the very ceremony meant to unite them. The pressure to showcase these events on social media only amplifies the competitive spending, driving financial decisions that prioritize social validation over personal well-being.

Weddings have increasingly become businesses, with couples giving in to societal norms instead of committing in simpler, more affordable ways. The ridiculousness of couples breaking up over wedding costs underscores the need to re-evaluate these norms and focus on the true essence of marriage, free from the overwhelming pressures of societal expectations.

The morals of these stories, you ask?

Look around and you'll see that we are still deeply influenced by social norms in many aspects of our lives. Consider the obsession with physical appearance: noses must be perfectly shaped, slightest wrinkle is a sin, and our bodies must either be super slim or emulate a surgically enhanced celebrity look. Natural beauty is vanishing, replaced by expensive beauty treatments that deplete our bank accounts. These norms seem endless and relentless.

Social norms are like invisible puppeteers, often guiding our decisions without us even realizing it. While they can promote social cohesion and predictability, they can also lead us astray, particularly in financial matters. Understanding the psychological underpinnings and historical impacts of social norms can help us make more informed and autonomous decisions. So, next time you feel the urge to follow the crowd, take a moment to reflect: are you making this choice because it’s right for you, or because it’s what everyone else expects? If it’s the latter, maybe it’s time to break free from these invisible handcuffs and dance to your own tune.

When we base our decisions on social norms, spend money to keep up with them, and let our youth slip away fueled by these expectations, we eventually face a harsh reality: living up to social norms is like filling a bottomless tank. It’s an impossible feat. Many of us spend years striving to meet these expectations, only to realize too late that we’ve sacrificed our true desires and well-being. The pressure to conform can lead us to a life of running without purpose, driven by arbitrary deadlines and societal expectations. But at some point, we must stop and ask ourselves if this relentless race is truly worth it. It's time to live for ourselves, not for the approval of others.

I spent my teenage years and my early 20s striving to get into the best universities, studying top majors, and being at the top of my class. But on graduation day, what I thought would be my happiest moment scared me the most: reaching the finish line. Was this truly what I wanted? Had I wasted my youth on a stereotypical societal race to "make it"?

I realized how little I cared about norms when I had my tonsils out at 27. That hot summer night, without my phone and in absolute silence, my life flashed before my eyes. I'd been running all my life because someone always yelled "run," and I obeyed. I ran. Deadlines, targets, and goals—all making me run.

That night in the hospital, I couldn't recall a time when I wasn't running until my health forced me to stop. It hit me then: I would never run again just because I heard a gunshot. Experiencing anesthesia gave me a rare silence, a break from the noise. In the operation room, without makeup or polish, I simply slept.

I made a promise to myself that night: I would sleep thinking about my own thoughts and worries, not society's. I vowed to master the fine art of not giving a crap about others' opinions about my life.

Note of the month: Once in a while people realize they don't have to live by the rules they've been handed; and unfortunately, not that often.

Beyond The Numbers is a monthly newsletter that aims to delve into the human side of finance, exploring emotions, psychology, and biases that influence our financial decisions. My name is Sadaf Poursheikhani, and I am a behavioral economist, passionate about dissecting investor psychology. Join me as we uncover the hidden secrets of the financial world.

Disclaimer: I would like to remind readers that this newsletter is based on scientific studies, my own research, and personal opinions. It does not reflect the views of any organization, and I am not providing financial advice. Rather, the aim is to shed light on the emotional side of the market and provide insights into how emotions can impact financial decision-making.