How to make your money biases work for you

The way our brains work can cost us a lot of money. But some of our mental quirks can be turned to our advantage.

Cognitive biases are the faulty ways of thinking that can persuade us to run up debt, save too little and make stupid investment decisions. The bandwagon effect, for example, entices us to buy the hot stock everyone’s talking about, rather than the mutual fund that makes more sense for our long-term goals. Or we sign up for a too-large mortgage because of optimism bias (“I’ll figure out a way to make the payments, somehow!”). We can try to be more rational, but sometimes it makes sense to exploit our faulty wiring instead. Here are three money biases that you could put to work for yourself:

Mental accounting

Money is fungible, which means every dollar has the same value regardless of how we get it or store it. But our brains didn’t get that memo, so we treat different types of money differently. We’re tempted to splurge with windfalls, for example, or to be more careful spending cash than using credit.

You can turn this mental accounting to good use by creating multiple savings accounts, each labeled with your goal for the money. For example, you could create accounts called “vacation,” “car repair fund,” “home down payment” and so on. Online banks and credit unions typically make this easy by allowing you to create and name numerous subaccounts without minimum balance requirements or fees.

Labeling and segregating money could help you keep your hands off of it. While you might dip into a general savings account for a questionable purchase, you may resist the urge if you can envision having less money for your vacation or not being able to pay for a needed car repair.

Our hard-wired preference for short-term payoffs, even when we would get more by waiting, is known as “hyperbolic discounting.” We know we need to save more for retirement, or pay down debt, or build an emergency fund. In the moment, though, we want to spend our money in other ways.

‘End-of-history illusion’

Think of the person you