I recently got to read the book The Financial Diaries by Jonathon Morduch and Rachel Schneider. I thought it was a valuable read, in fact it's so valuable that I recommend that you read it yourself. I got my copy by hacking into Rob's intra-library loan system (which is how I read most new non-fiction), but you might have to buy a copy.
The book follows a few hundred individuals families and all their income and consumption in a year. Almost all the participants are living above the poverty line, but below the median household income for a family of their size. A few earn near median incomes, but still struggle to get by (especially single parent households).
Why was this book so valuable for me? It helped me to gain a better frame of reference when I'm helping lower income people figure out their financial plans. Here's what I learned from the book.
I'm now obsessed with Short Term Savings
One of the most striking observations in this book is that income volatility rather than absolute income seems to drive financial stress. Should healthy couples earning $75K a year, with two healthy kids in public school ever experience financial stress? They often do.
The financial stress is typically driven by income volatility. Especially when income lows match with expense highs.
Let's give some color around my example above- It's a made up example, not from the Financial Diaries, but you could find similar stories in the book.
Let's call the couple Alex and Sally. Their kids are Gabby and Jason. They live in Indiana, the crossroads of America. Alex is a truck mechanic (he services the electronic equipment on big-rigs), and Sally works part-time as a waitress.
The husband in my example is a truck mechanic. He earns approximately $55K per year and works full time year round. However, his income is partially commissioned based. That means he earns about $35K between October through April when the trucks need winterization and weather related repairs. The rest of the year he earns just $20K (between $2500-$3500 a month). During those months, he gets to go home early or take off extra days, but his income is lower.
During the summer, fewer people eat out at the Diner where Sally works. Plus, the kids are home during the day, so she doesn't take as many shifts as she does the rest of the year. During the summer, she'll earn an average of $70 per 5 hour shift that she works, but she's only going to work about 30 shifts. That means she'll earn just over $2000 the whole summer.
During the school year, she'll work the lunch shift 5 days per week and earn about $90 per shift. The result, she earns almost all her income during the school year.
Summers, the time when the family has time, means the family has very little money relative to the rest of the year.
Alex and Sally aren't stupid. They know this will happen every year, so they plan to live very frugally during the summer. Alex's after tax income doesn't quite cover their mortgage payment and car payment, but the couple has saved for that. Sally earns enough for groceries, gas money, and a little bit of fun. The family puts off a lot of spending until September and October. They buy school supplies, pay for dental appointments, and pay off any credit card debt that they accrued over the summer. November means saving money, unless someone gets sick or the car goes out. December means Christmas presents. But January-April are serious savings months. The couple builds up their savings account as best as they can. They might even stick a thousand or two into a Roth IRA.
But May rolls around, and the savings stop. By June, the couple is spending down the savings account for daily living. Any unexpected illnesses, the decision to let their kids join fall sports, or an untimely car repair means that the emergency fund is gone by July, and the couple starts adding a bit of credit card debt to get by in August.
The fact is, it's hard to keep thousands of dollars sitting around in a checking account. Families who are living on the edge financially often manage to build up savings for a few months, but a change in income combined with an unexpected expense makes the whole system fall apart, even with a decent annual income.
I believe that the best way to combat the financial stress associated with low incomes colliding with high expenses is by emphasizing emergency savings. And this emergency savings isn't to cover a few months of unemployment, this is to cover future spending when your income is down. This is actually the most common form of savings among below median income families.
Regrettably, on average, emergency savings cushion doesn't grow as income grows. It's simply not exciting to stick cash in a savings account, but it's crucial for making pathways out of financial stress, especially for near middle income families.
The people that had the greatest success with developing emergency savings relied on "peer" accountability. They usually had a parent or sibling keep money for them. Then they would have to plead their case before the money guardian gave them their savings. This kept them from raiding the account in non-emergency situations. Others relied on informal family loans. They lent during high income months and expected payment during low income months (that didn't always work out so well). Still others put money into an account in another town. They would only get money when they were willing to make the drive.
It's not an easy nut to crack, but I'm creating a marketing team for the near term need savings account. Let me know if you want to join. We're going to make short term savings popular!
Focus on options, not solutions
One of the most fascinating parts of this book was the sheer ingenuity of people who were living below the median. Faced with unexpected bills, some people would pick up the strangest side hustles. Some would move in with family, or invite family to move in with them. This reduced costs or increased their income. Some people created a sort of "communal living" option where they bought and gave necessary items when they had money, and they relied on others to do the same.
Christmas savings clubs, Group Savings, and informal loans between family and friends really helped people out. Not to mention, the ingenious ways many people managed to finance purchases or avoid expenses.
Before reading this book, I tended to eschew the informal financial sector. I also had a tendency to think of people with lower incomes as having some slightly lower level of agency than me. That's not the case. People are super-smart. They will figure things out. One size fits all solutions (even the emergency savings mentioned above) aren't always the right idea.
When I'm helping someone now, I really try to focus on the huge number of options they have to resolve specific instances of financial stress. The long term struggle is real, and it may require moving, adding skills, etc, but I'm much more open to the myriad of options available today.
I'm currently on team diverse income, but its complicated
In economics, we have a long history of declaring that markets are incapable of justice. Morality and law and justice must exist outside of markets. I say that to explain my views.
For a few decades we've sort of had this trope that a man ought to be able to support his family on just one income. Then women started joining the workforce, and we started saying that a man or woman ought to be able to support him or herself and his or her children on his or her income. But just one income. And they should get health insurance and retirement plans.
I actually think this is a beautiful ideal, but we can't demand this of the labor marketplace. Markets don't just magically clear at some pre-set price called a living wage. We have seen some evidence that modest increases to minimum wage lead to higher wages without employment displacement when the market clearing wage for low skill labor was already near or above the minimum wage. That said, a big push to the floor of minimum wage is expected to leave some (or many) unemployed.
As a result, I'm coming down on team diverse income. I think one of the most important ways in which a person can build a better life for themselves is to start working on multiple active income streams. Yes, a full time job is an anchor, but part time jobs can allow you to add skills and find business opportunities.
In general, those with the lowest incomes work in service jobs. They may work in restaurants or hotels, or they may work as PCAs or TAs at elementary schools. Whatever their specific occupation, these jobs don't offer pathways to income growth, and moving to a big city isn't usually the answer.
By pursuing diverse income opportunities, I think that people with lower incomes may build the skills necessary to command wages or salaries that will allow them to support a family on a single income.
I don't want to paint this as easy. I don't even want to say its fair. I just think that pursuing diverse streams of income is a good option. It's far better than hoping for a rise in the minimum wage, and in most cases it's better than dropping out of the workforce to go back to school.
I'm a wife, a mom, an employee, and a personal finance nerd who is devoted to spreadsheeting my way through life.