Fintech companies utilise mental accounting, a well-established concept within behavioural economics, to simplify personal finance management.
Utilising behavioural economics principles in business, such as nudging, social proof or loss aversion, is one of the most significant intellectual trends of the recent management hype cycle. Some startups like Uber are even actively working on advanced solutions in this field in order to drive up their business results and key metrics. Especially in banking, there’s a huge potential for integrating behavioural economics principles directly in the product. Some Neobanks are already exploiting a well-known principle, mental accounting, in order to align their UX with their users’ mental models.
One particularly interesting concept of behavioural economics is a psychological effect called mental accounting. You have probably been doing it for yourself since the age you got your first pocket money: Mental accounting describes the tendency to categorise income and assets into non-transferable buckets, such as a monthly rent or groceries bucket.
Keeping in mind that a key principle of economics is that money is fungible, i.e. interchangeable and with no pre-set restriction about what it can be spent on, the process of mental accounting can sometimes lead to counterproductive behaviours and bad outcomes. In large organisations, it can occur that one department needs to take care of some urgent need but doesn’t have enough of the assigned budget left and there is no way to tap into the budget of another department. Similarly, households and individuals keep their own budgeting rules: One is less likely to go out for dinner with friends if the rest of the monthly entertainment budget was already spent on visiting a football game last week, even though the idea of attending the dinner is highly desirable.
In a study by Justine Hastings and Jesse Shapiro, consumers in the US switched from normal to premium gas after the oil prices decreased during a recession. Even though most households had less disposable income to spend, the decrease in oil price was perceived as an opportunity to be able to purchase the premium gas out of the ‘monthly gas bucket’ — even though these saving could have been spent on better food or entertainment. Hence, mental accounting can lead to adverse outcomes due to the strict division of income in separate accounts.
As most individuals don’t have a CFO that takes care of cash flow if something goes wrong, some Fintech companies are offering money management solutions that help their users with the process of mental accounting.
How Fintechs utilise mental accounting to make their product stickier
Behavioural economics is already heavily used for top-of-funnel marketing purposes, such as displaying the monthly subscription choices in a way that most leads select the more expensive option. However, there are also some clever implementations directly applied in Fintech products that actually help to improve the financial wellbeing of users and to make the overall product experience stickier.
N26, the Fintech company from Berlin, taps utilises the mental accounting phenomenon by offering so-called ‘spaces’. The feature was launched in August 2018 and allows users to set aside money in separate virtual accounts for self-defined purposes, such as ‘time with friends’ or ‘vacation’. The UX is very sophisticated, as users just drag and drop money from their main account into a separate space. Even though the only function of the spaces feature is to provide a better overview over one’s finances — the sub-accounts don’t provide any interest — N26 users had already put aside €130 million in spaces by December 2018. It works because the logic behind the feature is strongly aligned with mental accounting and thereby solves a real need for banking customers. Of course, if one needs more than two spaces, you need to upgrade to a higher pricing plan.
A very straightforward utilisation of mental accounting is the use of budgets. Revolut automatically categorises transactions and displays the amount spent and left in their analytics tab in the app. After a user spent money on groceries, a push notification will tell how much money is left for groceries expenses until the end of the month. Hence, users don’t even need to calculate their individual spending anymore and can check their separate ‘mental accounts’ conveniently in the app.
Whitebox – goal-based savings
German robo-advisor Whitebox utilises mental accounting by offering its customers the option to put money aside for very specific purposes, such as saving for purchasing a piano or a larger vacation. For most people, wealth is also separated into various mental accounts, with easy-to-spend cash and long-term retirement savings that aren’t allowed to be touched. Instead of paying a certain sum every month to a generic fund, users can decide for themselves how much money they want to set aside and how much risk they’re willing to take for each purpose, which takes advantage of the user’s existing mental accounts.
All these are examples of utilising mental accounting in banking applications that at the end of the day make the life of users easier. With the use of these sophisticated financial apps, a household or individual can easily plan their finances and stay within the available budget. The next level might be that banks even prevent their users from making the mistake that monthly gains or losses are perceived from a narrow mental accounting viewpoint. Bad financial decisions — as in the gasoline example from above — can be avoided by connecting available money spent or saved in one account in terms of total gains or losses. It will nevertheless be interesting to see what other product innovations the Neobanks will be launching this year.
The Wall Street Journal, March 8, 2018: “How to Harness Mental Accounting to Instill Good Financial Habits”
Chicago Booth Review, September 19, 2013: “Why did drivers switch to premium during the recession?”