Books and articles about living on a personal budget often emphasize the importance of cutting spending on luxuries like coffeehouse lattes or cable TV. But in some cases, the line between luxuries and necessities isn’t so clear.
For example, is a daily newspaper a necessity because you need to stay informed, or is it a luxury because you can read the news online for free? Is a cellphone plan a luxury because you already have a landline, or is it a necessity because you need to keep in touch with your work contacts while on the go?
The answer to these questions is less than clear-cut. Economists, pollsters, and business owners have different ways of drawing the line between luxuries and necessities. And that line can actually move over time.
What Are Necessities?
The dictionary defines a necessity as “an indispensable thing.” And clearly, there are some things everyone needs to survive. For instance, we all need food, water, shelter, and clothing.
Yet even within those categories, there’s a surprising amount of wiggle room. For example, you need food to live, but you don’t need a gourmet meal at a four-star restaurant. You need shoes to protect your feet, but they don’t have to be a $400 pair of Italian leather boots.
Various social scientists have attempted to develop some clearer rules about what constitutes a necessity. But the guidelines they’ve come up with aren’t identical. And the way ordinary Americans draw the line can change as society changes.
So how do you categorize your purchases? Only you can answer that. But understanding the existing research is an excellent place to start.
Basic Needs: The Gallup Basic Access Index
From 2008 through 2012, Gallup polls tracked Americans’ access to basic necessities. Its list included 13 items in three broad categories:
- Food. Gallup asked respondents whether they could afford food for themselves and their families. It also asked whether they had access to affordable fresh fruits and vegetables and clean and safe drinking water.
- Housing. The most basic question in this category was whether respondents could afford “adequate shelter or housing” for themselves and their families. However, Gallup also treated a safe and healthy neighborhood as a necessity.
- Health. Gallup asked respondents whether they had a personal doctor and made yearly dentist visits and whether they had health insurance and could afford to pay for medical expenses. They also asked whether they had a safe place to exercise and easy access to medicine.
In 2012, more than 80% of Americans said yes to all these questions. But that still left nearly 1 in 5 Americans managing to survive without at least one.
That shows that even the things Gallup treats as bare-bones necessities aren’t things people literally can’t live without. They’re just things no one should have to live without.
Must-Haves: The Warren-Tyagi Formula
In 2006, law professor Elizabeth Warren, now a United States senator, published “All Your Worth: The Ultimate Lifetime Money Plan” with her daughter, economist Amelia Warren Tyagi. One of the key concepts in this book was the balanced money formula. It divided all spending into three categories: must-haves, wants, and savings.
Warren and Tyagi define must-haves as bills you have to pay no matter what. All the basics, like rent, transportation, insurance, and utilities, go into this category. By contrast, the wants category includes “all the treats and extras,” such as clothes, movies, and restaurant meals.
The Warren-Tyagi formula approaches needs rather differently from the Gallup poll. For instance, both classify housing as a necessity. But for Gallup, meeting your housing needs means having “adequate shelter” in a safe neighborhood. For Warren and Tyagi, your housing must-have is enough money to cover your rent or mortgage, no matter how large it is.
Similarly, your must-have list could include a car payment and auto insurance even though a vehicle isn’t one of the basic needs on the Gallup list. That’s because even if a car isn’t a necessity for you, once you’ve bought one, paying the bills for it becomes one.
In other words, your must-haves aren’t the bare necessities of all human life. They’re the specific necessities of your life as you’re living it right now.
That means that unlike Gallup’s list of basic necessities, your must-have list can change. Warren and Tyagi emphasize that living on a budget often requires you to cut spending on must-haves, as well as wants.
Paying your rent or mortgage is a necessity. But if you’re spending more than half your income on the mortgage for a new house that’s too big for you, that’s a necessity you can’t afford. Downsizing can rebalance your budget while still meeting your basic need for housing.
Changing Definitions: The Pew Survey
The list of life’s necessities doesn’t just change over time for individuals. It can change for the population as a whole as well.
For several years, the Pew Research Center and other survey organizations periodically asked Americans which items they considered necessities. The table below shows how the responses have changed over the years.
Percentage of Americans Calling Each Item a Necessity by Year(– indicates unasked for that year)
|Home Air Conditioning||54%||70%||51%|
|Cable or Satellite TV||23%||33%||17%|
To a large extent, the changes over time reflect technology shifts. For example, no one considered a flat-screen TV or iPod a necessity in 1996 because they didn’t exist.
Advancing technology can also make some older technologies less critical. For example, the widespread availability of streaming media made cable TV less important. By contrast, high-speed Internet has become vital for many people.
Pew notes that “old tech” appliances (such as clothes dryers, home air conditioners, and dishwashers) are the most likely to have dropped in the polls over time. New technologies like cellphones and high-speed Internet have either risen or stayed the same.
More generally, these changes aren’t just about new inventions. They’re about new standards in society. It’s easy to get by without a cellphone when no one you know has one. But when all your friends are used to texting as their primary way of communication, lacking a cellphone can mean falling out of touch.
That would explain why 60% of adults under 30 years old described a cellphone as a necessity in the Pew survey, while only 38% of those over 65 did. For that age group in 2009, landline phones were still the standard, and a cellphone was just a nice extra.
That also gives a clue as to why so many percentages went down between 2006 and 2009. The 2007-09 Great Recession made many Americans scale back. After going without, it begins to seem normal to live without things like air conditioning or dishwashers. Thus, people became less inclined to see them as necessities.
In short, what people consider a necessity doesn’t just depend on what’s available. It depends on what’s normal. That fits the findings from happiness economists that people’s happiness often depends less on how much money they have than on how much they have compared to others.
It’s easy to be satisfied with a small house when all your friends live in apartments. But if they all live in large houses, a large house looks like the norm — or even a necessity.
What Are Luxuries?
If a necessity is something everybody needs, a luxury must be something nobody really needs but many people want. However, the dictionary definition goes a little bit further than this. It says a luxury is “an inessential, desirable item that is expensive or difficult to obtain.”
Note that this definition has two parts. A luxury isn’t just something desirable. It also has to be expensive. That suggests luxuries are valuable for both the enjoyment they provide and as a status symbol.
For example, a fur coat is valuable partly because it’s nice and warm, and an iPhone is valuable because it provides on-the-go Internet. But another part of what makes them desirable is their high price tags. Because not everyone can afford them, owning one is a way to show your wealth and position to the world.
Luxury Goods and Income
If luxuries are by definition expensive and unnecessary, then it follows that people must be more likely to buy them when they have plenty of cash. Economists have a name for this concept: “income elasticity of demand.”
In lay terms, that means how much your income affects your chances of buying certain types of products.
Economics Help explains this concept by comparing three different types of goods:
- Inferior Goods. These are products people are more likely to buy when their income falls. One example is cheap, single-ply toilet paper.
- Normal Goods. These are everyday basics like food and clothing. People buy more of these goods when their income is higher — but not much more. They generally only buy what they need, stocking up just a little when they’re flush with cash.
- Luxury Goods. These are products people are much more likely to buy when their income rises. Electronics are a good example. If you’ve just gotten a raise or received a hefty tax refund, you’re much more likely to go out and buy a new TV than if you’re on a strict budget.
Based on this definition, it’s easy to figure out which items are luxuries. Just look at how demand for them changes when people’s incomes rise. If rising incomes cause a surge in demand for a particular product type, that product must be a luxury good.
Luxury Goods and Status
One specific type of luxury good is known as a “Veblen good.” It’s named for Norwegian-American economist Thorstein Veblen, who coined the term “conspicuous consumption.”
With most goods, as price goes up, demand falls. That is, higher prices make people less likely to buy. With Veblen goods, just the opposite is true. People become more likely to buy the product as prices go up because they assume a higher price tag means higher quality.
They can also be “positional goods.” These are scarce items, which makes competition for them high. An example is tuition at an elite university like Princeton or Yale. Spending more money on these goods lets people demonstrate their position in society — and helps them hold onto it at the same time.
One way to identify luxury goods — particularly Veblen goods — is by their labels. Luxury brands offer status and style in addition to mere functionality.
That’s why counterfeit versions of luxury brands are so common: Their makers are hoping to cash in on the cachet of the designer label without having to invest in the quality materials and construction of genuine luxury goods.
According to Statista, the most valuable luxury brands in the world fall into three main categories:
- Clothing. Clothes blur the line between necessity and luxury. Everyone needs to get dressed, but designer clothes provide status Walmart clothes cannot. Top high-end brands include Chanel, Christian Dior, and Prada.
- Leather Goods. Many designers also sell shoes and handbags, but some are known specifically for leather goods. For example, Gucci and Hermes are best known for their stylish handbags. And Louis Vuitton specializes in luggage and handbags.
- Jewelry. Unlike clothing and footwear, which everyone needs to own in some form, no one needs to wear jewelry. That makes all jewelry a luxury, but some brands carry more status than others. The biggest-name jewelers in the world are Cartier and luxury watch brand Rolex.
According to a 2014 paper published in the Journal of Consumer Psychology, people don’t necessarily buy luxury brands because of their snob appeal.
Tests showed people were more likely to feel interested in luxury brands after performing a task that gave them a feeling of accomplishment than after performing a task that made them feel snobbish and superior to others.
But the same study also found that once people own a luxury product, it tends to give them a feeling of snobbish pride instead of the pride that comes from accomplishment.
Moreover, researchers found that when people see designer labels, they tend to think of the wearer as snobby rather than accomplished. So even if people buy luxury goods as a way to reward themselves for accomplishments, they appear to be showing off.
The line between necessities and luxuries isn’t rigid. It changes over time as new goods enter the market or become obsolete. It also depends on what your social group sees as normal.
That means one person’s luxury could be seen as normal — even necessary — by another. If your friends don’t have cars, a car could be a luxury. If everyone you know has a car, it becomes a necessity.
And since part of a luxury’s job is to show status, even a luxury car like a Mercedes ceases to be a luxury if everyone you know has one. It’s seen as normal, par for the course. If you want to display your wealth and position, you have to upgrade to a Porsche.
That doesn’t mean spending on luxuries is a bad or dumb idea in itself. Luxuries aren’t just for showing off. They’re also high-quality products that look better, feel better, or last longer than ordinary goods.
Having a few luxuries in your life is a way to reward yourself for your hard work as long as you can afford them and get genuine pleasure from them.
The important thing is to be able to recognize them as luxuries. Knowing what’s a necessity and what’s a luxury for you helps you figure out what to cut if you ever have to tighten your belt. And at the same time, it helps you appreciate the luxuries more when you can afford them.