‘The Psychology of Money’ Isn’t About Psychology or Money

In The Psychology of Money, Morgan Housel argues that the “psychology of money” provides a better lens to examine financial decisions than a lens focused on dollars and cents. Such a claim might be true, and I was eager to learn, but the book does nothing to advance that argument. It is only tangentially about psychology and most definitely not about money.

The book develops lively, uncontroversial arguments about rationality, subjective values, risk and uncertainty, and investment strategies like diversification. Housel notes that success depends on luck and that it is difficult to tell the difference between foolish and prudent behavior, especially in real time. Readers are also informed that some people are rich, some people are poor, and that myriad historically contingent and personal factors influenced such outcomes. We also learn to be suspicious of forecasts, and that competition whittles away profit opportunities.

The book—written for a popular audience—is most appropriate for readers who are marginally interested in finance but have never saved or invested. Young high school students might find some of the stories useful. Housel notes that these lessons are timeless, but the book is too glib to offer more than what you could learn from your grandparents or an introductory text on money and banking (speaking of which, here is the text I recently wrote with Robert Wright). Burton Malkiel’s book also covers a range of financial bubbles, demonstrates the fallibility of forecasting, and the importance of investing over a longer period of time.

For most readers, however, Housel’s book is overly simplistic and would not add to what they already know. You could insert the fable of the tortoise and the hare into one of the chapters on saving, and it would barely change the tone or quality of the book.

If the book were merely a how-to on investing, it might make for an interesting companion to a course on investing. Unfortunately, Housel consistently misuses terms like money, rationality, and wealth. Such definitions would help advance a psychology of money, but the book lacks such clarity. Depending on the story, Housel uses money to mean income, savings, and investment. Economists since the late 19th century, however, have defined money primarily as a means of exchange, a good that emerges through buy-and-sell decisions and individual expectations about holding goods as a means of subsequent exchange. Carl Menger describes these principles in the late 19th century—in his textbook on economics and in his more general work on the social sciences. This definition and approach to money is easily accessible and would have built a richer argument; it would also help develop a psychology of money based on subjective values. Housel makes no effort to recognize such connections.

The problems with his generalizations range from quibbles to more severe mischaracterizations. For example, we learn that people make decisions based on their historical circumstances and their subjective values. Of course this is true. Depression babies, people raised during economic downturns, for example, tend to invest more cautiously. Once we specify people have any set of values — whether they are values for caution or not, and whether they are because of historical circumstances or not — they tend to pursue those values. Making such connections is not revelatory; it is another way to say people match means and ends.

We also learn that “The cornerstone of economics is that things change over time, because the invisible hand hates anything staying too good or too bad indefinitely.” In a later chapter, Housel refers to this as an “iron law” of economics. He is trying to argue that competition—buyers against buyers and sellers against sellers—whittles away profit opportunities. His implicit argument is correct, but it is so poorly written that it borders on negligence. The glib writing conveys gross characterizations about economic science, supply and demand, and market systems. None of these topics are particularly concerned with change over time or hating anything. Readers could easily misinterpret the writing and develop subsequent errors.

It is fine to write for a popular audience and more clearly explain financial topics, but we should also clearly define terms, state our presumptions, and convey principles. Ultimately, Housel’s book achieves its goal of conveying the richness of factors that influence financial decisions, but it blithely ignores economic principles that are the foundation of its subject.

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