People often do not know how to differentiate the price of an item and the value of an item. The value of things is not something that can be explained easily. But in this case we will use a simple thinking process and hopefully give an insight on how we can move towards looking at the price of an item to the value of an item.
You may have known similar examples like this: Ordering a steak in a normal food shop may cost $10. But ordering the same type and weight of steak in a fanciful restaurant will cost you $50 perhaps. There are a whole range of prices in between and of course much higher prices elsewhere. But you get the gist. Perhaps the steak in the fanciful restaurant taste better, but unless the chef at the local food shop has awful skills, chances are we will not be able to differentiate much on the taste of both steaks. Even if we could, perhaps the difference would not warrant such a difference in price.
But why then, do people still go to the fanciful restaurants? For one, perhaps it is the ambience, the social status one derives from eating over there, or perhaps some guy just wish to impress his girl (we all do). Chances are the restaurant has a better steak quality too. It is the overall package of the experience, sitting in a nice, quiet and elegant place having the best of the service serving you quality steak. The whole dining experience is what gave the steak that kind of price.
But what about the value of the steak? How much is it really worth? As mentioned earlier, the value of an item cannot be explained easily, and more often than not is dependent on the individual. We use another common example. As individuals, many of us go on overseas holidays every year. We would often choose off-peak seasons if we can help it because the air tickets are cheaper, although those with family would have to cater to their children’s school holidays and go only during that time (the peak season). But whatever the reason, we only go once or twice a year usually, simply because the air tickets are expensive, and overseas trip incur a lot of other expenses such as hotel stay.
Yet there are companies who frequently send their employees overseas for work. It can be as extreme as all year round, a particular employee spending most of the time flying and staying overseas, coming back to the local country for reporting purposes and getting the next assignment. Yet despite the high cost of doing that, companies still sent their staff on overseas work trips. Why? Because the value they can get far outweighs the cost of the trip. For example, a round trip and a 5 day hotel stay probably would cost the company $3000, but sending the employee to complete a project overseas would nett the company perhaps $20,000 in profits. We can therefore see that there is value in the company sending its staff overseas all year long.
But how can we determine what is the value of something to us? Perhaps I would suggest that as a start we measure it in terms of our time, not the price. For example, I am earning $5000 a month after taxes. In a month I work 22 days, 8 hours a day. That would mean that I am earning money at a rate of $5000 / 22 days / 8 hours = $28.41 per hour. Now if I want to impress a girl in a fanciful restaurant, a steak for a person costing $50 would mean I will need to spend $100 for the dinner (I would need to eat too, as it is kinda awkward if I stare at her eating and I only drink plain water). The final bill would come to be $100, but I would calculate it as using about 4 hours of my labour, basically half a day’s worth of work. Now I need to ask myself, if a dinner cost me half a day of effort, is it worth it? Perhaps this is the day I am going to ask her to be my girlfriend, then that would definitely be worth it. But if I am going to do it everyday, then no, it will not be worth it.
On another common example. Ladies usually like to buy luxury leather bags or wallets. We take a Chanel bag for example, which cost about $4000 (I am just making a rough guess here). Using a salary of $5000 a month, that would mean that the bag would cost me 80% of my labour for that month. If we take it a step further and measure it in terms of how long we take to save up the money, the period of time would be even longer. Is it worth it? That would have to depend on the individual.
Every person has different dreams, goals, things to look forward to and things that define them. To some, having more money in the bank is more important. To some, having the social status is more important. To some, money comes more easily. To some, work is difficult. There are those who come from a well-to-do family, and those whose family depends on them for living expenses. Whatever it is, whatever they spend on, there is nothing legally wrong (although it might be financially illogical) with it.
But whatever it is, remember that time and energy is the only finite resource we have. Your time in your 20s is worth much more than your time in your 80s. You do not have as much energy in your 50s compared to your 30s. Your earning power would probably hit a peak in your 40s and drop down from there. The above guide only serves as a simple example in calculating the value of money at that particular point in time, using our hourly or monthly earning power as a quick reference. I use that often, but I also often compare it to the bigger scale of things. Will I still be using that fanciful car 20 years down the road? Is it important to look as if I am of a higher social status and gain the approval and recognition of people whose life or death does not even matter to me?
If you are reading this article, chances are you are also aiming for financial freedom. Then the criteria for our decision making should not be as broad as whether it is legally or morally wrong or not, nor should it be whether it is within your rights or not. It should be whether your decision makes financial sense or not, taking into consideration the wider view of things.
For example, buying an average car in Singapore cost about $120,000. Our cars are expensive because of the high taxes. In terms of labour, I will need to work quite a long time to pay it off. But if I spend that $120,000, that would mean I have $120,000 less to snowball my wealth. Over the 10 years which I can use my car (Singapore has a limit of 10 years for car usage, but you can extend it by paying another fee), the $120,000 which I did not spend could snowball to $200,000 considering an annual returns of 6%, which is not much. At the end of 10 years, I would see a minimal difference of $120,000 + $200,000 = $320,000 comparing the situations of me buying and not buying a car. Take note $120,000 is a very conservative figure, for you still have to pay for petrol, parking, taxes, insurances and maintenance. If I include all these in, and my investment returns is more than 6%, I could easily reach a $400,000 difference. $400,000 is a significant step towards financial freedom. Not a step that would grant me my financial freedom, but it is a significant step in a journey where every step counts.
Stack everything up, from buying luxury bags, eating in fanciful restaurants, buying cars, going for expensive holidays etc and you could see the gap widening over the years. You may not realise it for every single spending, but stack it up and there would be a difference you never imagine it to be. Take note that I am not saying that we should live like the homeless. Go eat in the fanciful restaurant if you need to, either as an occasional reward to yourself or to impress the person you wanted to for so long. Go get a car if it brings extra value to you. Go for your holidays if it does good for your mental health. But when spending, know what to spend on. If I need a car for transportation purposes so I can drive my clients around, would a Toyota be sufficient instead of a BMW? If I am going for a holiday, would staying in a normal decent average hotel be more than sufficient compared to paying 2x more and staying in a 5 star hotel?
The first step to calculating the value of things is to measure it against your labour hours. The second step is to measure it against the grand scheme of your plans. I know I have not covered all aspects, but if one can get this two points down, then he would be able to make more financially sensible decisions. We are unable to make a 10/10 financially sensible decision all the time. I make stupid decisions too. But the more financially correct decisions you make, the closer you are to your goals.