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Balancing Savings and Debt

Not everyone has savings, some just have debt. Others have faired better and have no debt, and on top of that even have savings. Some people have both. They have both debt and savings. Which seem rather strange. I’m not the only person who thinks this is weird. In behavioural economics this is known as the “co-holding puzzle.”

In my previous article I have mentioned that co-holding is holding both debts and savings. Now let me first explain why this is weird.

What do we know about having debt? It is expensive. Most debt comes with interest charges. The higher your debt, the higher your interest payments. As a result, having lower debt is cheaper. You lower your debt by repaying it. What do we know about savings? They don’t yield much. You need an immense fortune to be able to live of the interest banks are currently paying on it. It doesn’t matter too much whether you have a bit or a lot of money in a savings account. It’s not gaining you much.

If you have read the above explanation of both savings and debt, you should be able to figure out that having low-yield savings, combined with having high-expense debt is a bit odd. You are quite literally throwing money away. You are paying for the ability to co-hold. Because co-holding automatically means you would be able to (partly) pay off debt. It’s in the definition.

Gross and Souleles (2002) found that 33% of individuals with credit card debt have at least two months of disposable income available in liquid savings. This co-existence of liquid assets and consumer debt has also been shown in a number of other studies using US data (Bertaut et al, 2009; Fulford, 2012).

Gathergood and Weber (2014) used UK data and found that the problem exists in the UK as well. In their study, 12% of households actually engaged in co-holding. On average, these households held £3800 of debt on which they incur interest charges, which they could immediately pay down using their savings. By co-holding, these households had to pay down, on average, £650 in unnecessary interest charges per year. This is only an average for the 12%. It gets worse. One-in-five households that were co-holding, had to pay down £1000 in interest charges per year as a result of not paying down their debts with their savings.

Now the first thought is to check whether these people actually understand finance. Maybe co-holding is simply an anomaly brought on by a severe lack of financial knowledge. The study did check for this and measured financial literacy, and level of education and income. Gathergood and Weber found that co-holders had higher levels of financially literacy, with above average levels of both education and income.

Co-holding does not seem to be an anomaly caused by a lack of financial knowledge. Therefore, it seems logical that co-holding is not an accident but a choice. So what makes people choose to hold both savings and debt? Gathergood and Weber looked into issues of self-control. Co-holding households reported higher rates of impulsive spending behaviour compared to other households.

Bertaut et al. (2009) have suggested the accountant-shopper explanation, in which co-holding is a rational response to limit impulsive spending. The reasoning is quite simple. People tend to use their credit card when it comes to impulsive spending. A credit card tends to have a limit. When that limit is reached, no more spending is able to be done with that credit card. Now if that debt were to be paid down with savings, people would again be able to spend until the limit is reached. To avoid overspending again, people simply do not pay down the debt. They prefer to have initial debt and savings, rather than having hit the limit twice and having no savings left. As a result, it seems that co-holding is a planned behaviour undertaken by financially aware households.

Whether it’s planned or not, you have to ask: is it worth it? As outlined above, this has cost UK households £650-£1000 a year. You can do nice things with that kind of money. Then again, if you’re an impulsive spender to the extent that you might easily spend a whopping £1000 without blinking, it might be worth it. But you also might just want to cut up your credit card and call it a day.

We seem to keep coming back to impulsiveness. The inability to fight the urge to spend and restrain ourselves. In the next articles I plan to dive into impulsiveness and temporal preferences a bit more. But first I’d like to write a more prescriptive article on how we can use the insights we have discussed so far to actually save some money!

References Bertaut, C.C., Haliassos, M., Reiter, M., 2009. Credit card debt puzzles and debt revolvers for self-control. Rev. Finance 13 (4), 657–692,

Fulford, S. L. (2015). How important is variability in consumer credit limits?. Journal of Monetary Economics, 72, 42-63. (was a working paper in 2012 when cited by G&W)

Gathergood, J., & Weber, J. (2014). Self-control, financial literacy & the co-holding puzzle. Journal of Economic Behavior & Organization, 107, 455-469.

Gross, D.B., Souleles, N.S., 2002. Do liquidity constraints and interest rates matter for consumer behavior? Evidence from credit card data. Quart. J. Econ. 117 (1), 149–185.


Behavioural Science

Personal Finance



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