Lynne Malcolm: Hi, it's All in the Mind on RN. I'm Lynne Malcolm. Today, the psychology of money.

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In these weeks leading up to the festive season, money may well be on your mind. We're bombarded with jingles and advertisements, tricking and seducing us into spending. You might be wishing you had more of it, or trying to spend less of it, but there's little doubt that the concept of money has a strong hold over most of us, often in irrational and unexpected ways.

To discuss the latest research on the curious psychological power of money, I'm joined by Claudia Hammond. Claudia is the presenter of the BBC's All in the Mind program in the UK, and she's author of Mind Over Money: The Psychology of Money and How to Use it Better.
Lynne Malcolm: Welcome to the Australian version of All in the Mind, Claudia.

Claudia Hammond: Thank you very much, it's very nice to be here, and you get a fantastic view for your All in the Mind across downtown Sydney, but we don't get that in London.

Lynne Malcolm: Aw, I'm sorry! In your book Mind Over Money you introduce it with quite a dramatic story about the music band KLF and how they burnt £1 million. Tell me about that.

Claudia Hammond: Yes, they upset a lot of people doing this. So this was back in the 1990s, they had made their money with hits like '3am Eternal', and they had £1 million left, if you like, and they reinvented themselves as the K Foundation and they said that as a piece of art what they were going to do was burn £1 million. And so they went to the Isle of Jura off Scotland, this tiny little island and they found a deserted shepherd's hut, and they had their £1 million in £50 notes, and they burnt it. They threw the bits onto the fire a few at a time. It took ages and ages to burn, and people were really, really upset with them and really angry with them. And they were really taken aback at how upset people were.

Interviewer: So why Bill, why?
Bill Drummond: There was a lot of reasons why and we are still discovering reasons every day.
Interviewer: And is there a philosophy behind this, is this sort of a denial of the material world or something like that?
Bill Drummond: No. Some days it is that, but it's not really that. We could have done with the money. We wanted the money, but we wanted to burn it more.
Interviewer: And what did you feel as you saw it burning?
Bill Drummond: Numb.
Interviewer: What did your wives feel about it then?
Bill Drummond: It has caused problems!

Lynne Malcolm: It's on YouTube if people want to look at up, and it is quite funny to see them justifying and sort of saying, 'I don't get it, what's the problem?' But I think that probably you've talked about that story because it really highlights the emotion around money that we have.
Claudia Hammond: That's right. I mean, we do take money very, very seriously, and rightly so because you can do all sorts of things with money, you need money in the modern world to get along. But what people were so upset about was that they wasted that money and they could have done something else with it. So people would say, oh, why didn't they give it to charity, why didn't they spend it on something useful.

But what I think is interesting is that had they frittered that money in normal rockstar fashion, if you like, if they had spent it on fast cars or throwing TVs out of hotel windows or luxury holidays, nobody would have criticised them in the same way. It was the fact that it came to nothing people really minded about. And I think this is because money is a tool, and so money is a tool for being able to do different things, and so we hate seeing it destroyed because it's the destruction of opportunity, if you like, it's the destruction of chances, it's that they could have done all sorts of different things with that.

And studies since have shown that we really do hate seeing money destroyed. And so they've done studies in Denmark where they put people in a brain scanner, they show them videos of money being torn up in front of them and then they look to see their reactions. And people say they feel very distressed, but the part of the brain that is activated by that is the part of the brain which deals with tool use, with things like using a penknife or cutlery or something like that. And I think this shows how money is in some ways a drug and a thing we are obsessed with and a thing that acts on the brain in certain ways, but also a tool at the same time. So it's a tool for doing useful things with.

Lynne Malcolm: That obsession that you mentioned and the addiction that you mentioned, what does the research say about how money feeds in to those things?

Claudia Hammond: Yes, what's remarkable is that we are quite obsessed with money, and we sort of need to be assessed with money in one way, but also money even has a unique effect on the brain. And so if you put people in a brain scanner and you squirt some apple juice into their mouth or give them some chocolate or some wine or something else nice, you'll see the reward centres in the brain be activated. If you promise them some chocolate later on, you don't get the same effect. But with money, if you give them the money, they can't buy anything until later, they can buy chocolate if they wanted, but they can't get it until later, it's a delayed reward, and yet it's the only delayed reward which has that actual impact on the brain. At that moment their reward centres will be activated. And so there is something unique about it, it is really powerful.

Lynne Malcolm: In a lot of ways the physical money is quite symbolic, isn't it, and we do react a bit differently to the physical money to, say, spending money on a credit card.

Claudia Hammond: That's right, and in many places cashless payments, contactless cards are about to overtake the amount of actual physical cash that is spent, and that does matter because we do react differently. And so in one study in the States they monitored people's supermarket shopping for a whole year, and half the people paid in cash and half of them paid on a card. And the people who paid on a card spent more money and they also bought more unhealthy snacks than the others did. It's almost as if the money didn't feel real, so they could spend what they liked. And the calories of the unhealthy chocolate and so on didn't feel real either. It's almost like nothing felt real.

And the same thing happens if you spend money on a contactless card to buy small things, a sandwich, something like that. In studies, if they take people outside the shop and ask them how much did you spend, they are much less likely to know than if they had to count the cash, because cognitively we have to process that money, that cash, you've got to work out, 'I need a 5 and a 2 to make the right amount', you really think about it, whereas with a card you just tap it and it doesn't quite feel real. So you are more likely to spend it.

Lynne Malcolm: And it does make you wonder what's going to happen in the future when we become more and more contactless with money.
Claudia Hammond: Yes, I think for a while there is a slight difficulty and it doesn't feel quite like real money to us, and so we are likely to spend more. But I think in the long term we will get used to that because I think we usually do get used to the problems that are brought about by new technology. But also maybe technology will come to the rescue. So maybe there will be cards in the future where your balance in your bank account automatically flashes up on the card all the time. Maybe we'll be more aware of how much money we have or haven't got than we are at the moment. So I don't think all is doomed, otherwise we would all be bankrupt because we don't believe in the money, and fat because we think we can buy anything we like to eat. But I don't think that will happen.
Lynne Malcolm: In order to get an idea of how our brains react to money, one of the experiments you looked at was done by cognitive researchers Chris and Uta Frith. Can you just relate that to us?

Claudia Hammond: Yes, so they did an amazing study where they put people in a brain scanner and they showed them a video of a woman tearing up pieces of money, and people really didn't like what they were doing and didn't like this, found it distressing and were unhappy seeing this. And we know that people don't like money being destroyed. But the part of the brain which was activated was this area for using tools, and I think that does suggest…it does hint at money having this use for us and this symbolic use, and that being why we take it so seriously and why we really, really mind when it's destroyed or wasted.

Lynne Malcolm: Another thing you talk about is that money seems to be very tied up with what we think about our mortality and death.
Claudia Hammond: Yes, these were some extraordinary studies where they found that if they gave people a pile of money to handle and to count and they gave other people a pile of pieces of paper the same size to handle and to count, and then they gave people questionnaires about their fear of death and what they thought about dying, and the people who had just counted the real money were actually less afraid of dying than the people who counted fake money or just counted pieces of paper and weren't thinking about money. Which is really interesting because you think the one thing we know about money is you can't take it with you, so when you die there is no use for your money, apart from passing it on to other people perhaps. And so it's almost as if thinking about that money made them feel more secure and made them not worry so much about what was going to happen to them themselves in the future. It was almost a kind of bulwark against worry about their own mortality.

Lynne Malcolm: And we're also very irrational when it comes to money and the spending decisions we make. And you've spoken to some key proponents of the field of behavioural economics, Daniel Kahneman is one, and Richard Thaler. Tell us some of the unexpected things that they are revealing to us about our irrationality with money.

Claudia Hammond: Yes, unfortunately we are quite irrational with money. And it's interesting because we tend to think that we are good with money. And most people think that they are better than average at spotting a good deal, just as most of us think we are better than average drivers and we can't all be average or better, somebody has got to be below average for that to be average. But we think we are good at spotting these deals, but actually there are various ways in which we are not very rational when it comes to money.

One of them is when we look at discounts on things. So if you are buying something that is relatively cheap, say you're buying something for $50, if people can get a $15 discount on that they are very pleased with that discount and they might drive quite far to get that discount, it's almost a third, it's quite good, and they'll go to some trouble to do that.

If you can get $15 off a second-hand car that is costing, I don't know, $1,500, something like that, people don't bother trying to save that $15 anymore, because what is $15 relative to that big cost of that car, it's nothing, it really doesn't matter. And yet it is all $15. So if you're trying to save some money, it doesn't matter where you save it because you can spend money on anything. So it is the same amount, and yet we always see a discount relative to the total price, which isn't a completely rational thing to do.

Another thing we do…this is one of my favourites, is when people see things in a shop, they are often laid out in threes. And if you look online as well, say you want to buy a new laptop, they are often in threes. And when people were just given a choice of two to buy, say a cheap one and a medium priced one, then about half the people would choose the cheap one, half the people would choose the medium one. But if you put beside it a third very expensive item, much, much more expensive, all sleek and beautiful, a lovely expensive laptop, then suddenly twice as many people will go for the middle item than they were before, so they compromise. It's called the compromise effect, and they compromise by going for that middle item, and it's only because this sleek shiny one was put there.

And it's because people…we hate disadvantages in things, and so we look for disadvantages and try to avoid them. So the cheap one has the disadvantage of its very cheap, maybe it's no good, the expensive one obviously has the disadvantage of being hugely expensive, and so what people do instead is go to the middle one. But they would never have done it if that other one wasn't there. And stores know this, which is why they lay them out in this way, because it's very unlikely that someone is going to buy the really expensive one if what they were looking at was the cheap ones, and they don't think you are going to do that, but what they want you to do is to buy one for a bit more than you were going to. So it's a real thing that we can watch out for, whenever you see things in threes, be wary of the middle one and ask yourself why are you buying the middle one, what's the reason for that, is there a good reason?

Lynne Malcolm: And we also seem to hate losses more than we love wins, that's another thing that has come into the field of behavioural economics.

Claudia Hammond: Yes, we really do. I mean, loss aversion is a really strong finding. So we love a win but we really, really hate a loss, and we hate it so much that we will give up chances to win things in case we lose something. And this is fascinating because even monkeys do the same thing. So in the experiments with capuchin monkeys, they train the monkeys to use little plastic tokens, a bit like money, and they can hand over their token to the man who is holding out some grapes on his hand, and they do it so that sometimes one man on one side always offered two grapes, but sometimes offered a bonus grape and gave them a third at the same time. The other man always offered three grapes but sometimes when they had handed over their token he would take one away. And so they feel slightly ripped off, they didn't like it. And the monkeys very soon learned to go to the one who sometimes gave a bonus, and they really hated going to the man who sometimes took it away. They really didn't like that feeling of losing something. And we do the same thing, and then we make decisions around trying not to lose anything, and they're not always the best decisions to make.

Lynne Malcolm: You're with All in the Mind on RN, I'm Lynne Malcolm. I'm speaking with Claudia Hammond, from the BBC's All in the Mind program, and author of Mind Over Money: The Psychology of Money and How to Use It Better.

We're discussing the latest research in psychology, neuroscience and behavioural economics to caste light on some of our strangely irrational attitudes towards money. For example, we often choose to buy more expensive items, in the belief that they will be of higher quality. Might a placebo effect come into play here too?

Claudia Hammond: Yes, I mean this is fascinating. So we do tend to believe that expensive is good. And obviously sometimes expensive is good. Expensive luxury cars are probably better than cheap economy cars, and they are more comfy and go faster and things like that. So, often it is true. But sometimes it isn't, but we do believe it. So if you put people in a brain scanner and feed them wine through a straw, which isn't how I'd recommend drinking wine but if you can get to take part in these studies, why not…and you feed them wine through a straw, and then they fed them sometimes a wine that they told them the bottle cost $5, sometimes they told them the bottle cost $90, and sometimes they were lying. And—surprise, surprise—unless people were wine experts, then they thought that the $90 bottle tasted much, much better than the $5 bottle. So in a way the lesson from that is not to go on a wine course, because if you start to know, then you need to have the expensive wine. If you don't know then that's fine and maybe get your friends to lie to you and tell you they bought this amazing wine and you'll really like it.

But what's really remarkable is that this works with painkillers as well. So sometimes it is worth paying for the expensive things. So in studies using the general painkiller ibuprofen you can either buy branded fancy ibuprofen in a beautiful shiny packet for lots more money than the generic simple stuff, but they contain the same thing, and they are not lying about that, it says on the packet that that's what they contain and it will say how much it contains.

In experiments where they tested people's pain thresholds by they get you to put your arm in a bucket of iced water and hold it there for as long as you can and it's really, really painful and this pain whizzes up your arm and it's horrible and it aches deeply and very, very painfully. And they gave people painkillers beforehand and that helps you stand it for a bit longer. But if people thought that they had taken the branded expensive drug, they actually withstood it for longer than the people who had taken the cheap drug, even though it's exactly the same thing. And so this really is the placebo effect coming into play here, it's harnessing that extra bit of it. So in a way, if your headache or your backache is really, really bad, what you want to do is to pay to have the branded drug because you will believe it's better and it will work a bit better for you.

Lynne Malcolm: It's quite sobering to think how much money does control us and these psychological tricks. You know, we are not really that aware of them, we think we are operating in a rational way. I'm just wondering where our sense of money and our understanding of money comes from and when does it start?

Claudia Hammond: Yes, a lot of it obviously you learn from your parents because they are the people you're seeing handing over money. But what's really interesting is that if you talk to small children…I did this in a school just a couple of weeks ago and I was talking to four- and five-year-olds and asking them where they thought money came from. And they would say it comes from shopkeepers, because they see shopkeepers giving their parents change without realising their parents handed over more money first. Or they say it comes from banks. And then I'd say, well, how did it get into the bank? And they rarely said that their parents put it in there, but they will just say, well, the banks just have it. And none of the kids that I talked to linked money with working and didn't realise that was how their parents were getting the money at all. And this fits in with a lot of research that has been done, that they don't really understand where it comes from.

And yet even quite small children will treasure bits of money, and at the beginning it is like shiny treasure, shiny copper coins are a nice thing to have and they will put them in their money boxes and count them. They won't necessarily know the value of it. So I was saying to the kids, you know, how much money does a really, really rich person have? And they were saying £13. So that might be $18, $19 here. And so they thought that was the amount of money that somebody really, really rich would have. They also didn't know what you could buy with that, so they were suggesting maybe you could buy a car with that, which I think you'd be lucky. So they don't know much about it.

Yet other studies have shown that by the age of six, seven, eight they do know that you can sell things and that there are ways of making money. And so quite quickly children start to get a more developed sense of it. And I think we pick up a lot of attitudes about money from watching what our parents do, and I think that's why it's really useful if parents do start talking about it and start talking about how they are choosing what they choose, why they can't afford everything that they want and how they are making those decisions about which things are worth having, which things will last and the sorts of decisions that people are making about money so that children learn how to do it.

Lynne Malcolm: You tell a lovely story about a memory you had as a child and how you wanted to save up money to buy a lute, of all things.
Claudia Hammond: Yes, I did. I went to a kind of craft fair in a stately home and there was a stall selling really beautiful handmade lutes, and they were so expensive, they were £1,400. They were very, very expensive, and I decided that this was what I was going to save up to have, which was a ludicrous thing to save up for because I was never going to get it, and I never did. But I did spend ages drawing out one of those thermometers like you get outside hospitals where you see them raising the money, and I would colour it in red when I saved the money. And after many, many years I had saved £187, which I then spent as a student and spent on records and things like that and going out and stuff. So I never bought something exciting and special with the money, although it was probably more fun than buying a lute, to be honest.

Lynne Malcolm: We all vary though to some extent about how we use money and how we manage money, and often even in families, siblings vary a lot. How tied to personality is money management?

Claudia Hammond: Yes, I think it's very much tied to personality. And so you'll often get families where they will say, you know, one child is brilliant at saving up their money and will save their pocket money from week to week, and the other never has any and will borrow it from their sibling. And so yes, there have been big studies done looking at personality and people's attitudes towards money. And in a way the findings aren't that surprising, that people who score high on conscientiousness are not surprisingly better at saving up their money. People who are high on impulsiveness are more likely to spend their money. And I think these differences in personality which you see so hugely in families can explain why it is in the same family people can have such different attitudes to it, even though they have probably seen their parents doing the same sorts of things.

Lynne Malcolm: And how effective does it seem that money is a motivator and used as a reward?

Claudia Hammond: It really depends. It's interesting, we tend to think that paying people money is the way to get them to do things, and there have been all sorts of different attempts to do this. In America in various different cities they tried paying young people, children, to do exams and to do well in exams. And they did it in Dallas and Chicago and New York and they used slightly different methods in different cities, and they paid them a lot, they could earn $1,800 in some of these schemes if they did well in their exams, so worth doing if you think about it, worth trying.
And they found that in some cities it worked much better than others, and the reason was that for some of them they just paid them the money if they got good grades but they didn't tell them how to get good grades. In others they paid them to do certain tasks, to read certain books and to learn certain things, to revise certain things, and that was much, much more effective, that did work. So in a sense if you want to bribe your kids to do their homework, it's no good just saying, 'I'll give you the money if you get good grades for your homework,' you've got to tell them how to do that, otherwise there's no point in linking it to the money.

And there are examples where it completely backfires, paying people things at all. And one of the best known of these is a series of studies that were done in nurseries in Israel, and they decided that what they would do was fine parents if they turned up late, which lots of nurseries now do, because they were fed up with parents constantly turning up a bit late to pick up the kids and one member of staff had to stay with some kids that were behind. And they thought this will be a brilliant idea, and they charged them quite a bit.

And yet it went so wrong, this plan, that within a week every single parent was late at least once, which was extraordinary. And so it changed a favour of the member of staff staying late and parents feeling guilty about that into a paid-for service. And so then if people were running late at work they thought, oh well, I'll just pay the money, it's worth it, I'll just pay the money. And so it is curious in a way that it went so wrong. And then they stopped making the payments and it didn't turn back again afterwards, which is really worrying, which means if you do want to bring in some sort of incentive scheme you really need to be sure it's going to work and to try it out to see what unexpected side-effects of that it might have, because if you going to crowd out people's altruism and people's kindness, then you need to be very careful about that.

Lynne Malcolm: This is the age-old question about money and happiness, but what actual research have you come across about the relationship between money and happiness?

Claudia Hammond: Yes, it really is an age-old question, and what we do know is that within a given country, within a separate society, then the people with more money are on average happier than the people with less money. They have less to worry about because they are not worried about where they are going to get food or money for their accommodation or whatever the following week. So in one way that is not that surprising. But that doesn't mean you can't have a miserable billionaire and a very, very happy poorer person. So it's only on average and it doesn't tell you that much about those individuals. But what has been a bit of a puzzle for a long time within psychology is why it is that if that's the case then the richest countries should have the happiest people, and yet that doesn't seem to happen.

And there was this thing called the Easterlin paradox which is this idea of isn't it surprising that the richest countries aren't the happiest. And for a long time there was an idea that countries would get happier on average as incomes rose, but only to an average of about $20,000. And more recent research that has followed people for a much longer time and that has included far more millionaires than have been included before has found that actually it's more than that, it does seem to increase to more than that, possibly to a salary of £75,000, US dollars, might carry on having little bits of increases in happiness if you earn that much money. But even then people massively overestimate how happy money makes people. So if you ask people to guess how happy somebody on a low salary is and how happy somebody on a high salary is we tend to think that people earning loads must be really, really happy all the time and that people earning a little must be miserable all the time, and it's just not the case at all.

Lynne Malcolm: Claudia Hammond, psychologist and author of Mind Over Money. Her hope is that by the time you finish her book you'll feel that you control money, money doesn't control you.

Claudia Hammond: I think there are all sorts of things that we can do in our lives so that we can feel that we have more control of money, and so we can make some better decisions about it and not such irrational decisions about it, and to use it in the right way at the right moments. And so if you are trying to sell something that you own, you need to imagine you don't own it, because we all value everything we own more highly, and so then people wonder about prices and why that is. And also if you're going to bargain with somebody then it is really good to…unless you have no idea what price they might say, then you need to say the first price because every negotiation you do will then hinge around that, that amount of money will be in people's minds and it will always come into those negotiations. So you want to get in there first to do that.

But there's also things people can do, like they can spend any money they do have in a way that makes them happier. And evidence shows that spending money on experiences makes us much happier than spending money on things, even though an experience is over quickly, it might be a day trip to somewhere which has gone, and you think, oh well, that's gone away, I could have had something I kept, but actually experiences make us happier because we anticipate them beforehand, we think about them, we imagine ourselves in that situation in a way that you might think, oh, I'd like to have a big TV, but you don't imagine yourself sitting in the corner watching your big TV in the same way as you imagine yourself going off somewhere lovely or going abroad on holiday or something like that. And then afterwards we are left with all these memories that we can think about as well which make us feel happier too. And so it is definitely the case that spending money on experiences is a good way to go.

Lynne Malcolm: So what are some of the key things that you've learnt that have influenced the way you think about money now?

Claudia Hammond: One of them is spending money on experiences. I definitely do that now and I'm warier about spending money on an item unless I think I'm really going to enjoy that item. So I don't necessarily spend any less, but I am careful about how I do it. It's interesting how often…I keep getting texts from friends saying, 'I'm in Paris because I did what you said in your book,' and I think I didn't necessarily say that everybody must go to Paris, but I like the fact people take what they want to take from it, which is nice.

And I'm more wary I'd say of working out what's a good deal and where it is worth saving some money and where it's not worth saving some money, and particularly when it comes to time. And so I may be used to spend two hours online looking through all the budget flights to try and find the best deal of all, and then choosing something ridiculously early in the morning and realising that I can't get to the airport at that time without spending far more money on a taxi to get there when it would have been much more sensible just to choose a flight at another time and spend a bit more in the first place. And so I'm wary of things like that and much more careful now about how I spend time to try and save money and whether that's worth it or not.

Lynne Malcolm: Claudia Hammond, author of Mind over Money: The Psychology of Mind Over Money and How to Use it Better, which is published by Allen and Unwin.

For more money management tips from Claudia Hammond head to the ABC's All in the Mind website via the RN home page.
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Thanks to producer Diane Dean, and sound engineer Jen Parsonage.
I'm Lynne Malcolm, looking forward to being with you again next week.

© Australian Broadcasting Corporation