Why Don’t People Manage Debt Better?

Emory Nelms and Dan Ariely at Scientific American noted that even financially savvy people have a hard time juggling debt. The most cost-effective way to pay off multiple debts is to focus on loans with the highest interest rates first. But evidence shows that consumers consistently pay off smaller debts first, in a bid to reduce their total number of outstanding balances, even if it means racking up greater long-term costs. In a suboptimal method, Dave Ramsey often urges his listeners to ignore the interest rates and to attack the smallest debt first. This strategy of paying off the smaller debts first is a planned strategy rooted in psychology. “Consumers with multiple debts are motivated to reduce the total number of debts rather than reducing the total of their associated costs.” To counteract our natural tendency to approach debt irrationally, you can set up automatic payments to the debt with the highest interest.