Spending Model

The other day I was thinking about my spendings. Once in a while I get puzzled when I look into by bank account. When I introspect, almost always I feel like I have been victim of some online security intrusion and my money has been transferred into some hackers account.
But when I look more carefully, though, I realize that its not the case. All my money was and is still there with me. But somehow my spending has been more than what I thought.

Also I am kind of thrifty(my friends might say that this is good use of euphemism). But its true that I and many of us are not able to judge if any perticuler good or commodity is worth its values or not. When buying something, there are many criterias that one can apply. Quality and brand name are some of the very important ones. However, in some cases, its difficult to choose the way as all options have similar weight. Also there are cases when you can't really comment whether its ok to spend given amount of money for something.

I was thinking about this and it was difficult to objectively judge spending decisions. Then I came up with this very simple spending model which can explain if something is worth spending the money on. This helped me a lot to determine few over spendings and in some cases justify/oppose certain spending decisions.

This simple model goes like this -
spending worthiness index(index) = (your monthly salary/100[gc]*expected utility duration[ud] of the product in months)*(importance multiplier[im])/product value

gc - goods count(no of things you wish to buy in a month time), standard value is 100
sf - salary fraction = your monthly salary/gc
ud - utility duration in months(time for which good will last/good would be retired, whichever is earlier)
im - importance multiplier(how much the good is important, alternate way to calculate is - 100/no of such goods you need in your lifetime(applicable for non moveable assets mainly))

if product value < (your monthly salary/100*expected utility duration of the product in months)*(importance multiplier)

For normal people with normal salary/income, this 100 coefficient is good enough. You can alter it to some extent according to your position.
Importance multiplier is usually a whole number and equal to 1 for all normal scenarios. You can decide this number yourself, but general observation is for certain luxury goods, this is higher. 

Now if product value is more(or index is lesser than 1), then obviously you are over spending. If its less(or index is higer than 1) then that prodct is worth. Now, it should be noted that for certain product catagories this importance multiplier is not equal to one. In such cases all other products in the same catagory should be evaluated with that multiplier and conclusion should be reached.

Now some real world example,
Lets say I have monthly salary of 25000, and I have bought Nokia 5800 for 18000rs 3yrs back. Now, I am thinking about buying a new phone. When should I buy a new phone?
According to spending model that was mentioned, I have used the phone for 12*3=36 months. 250rs is monthly allocation. Which means, in 3 yrs I have used 36*250=9000rs out of initial spending of 18000. This means that after 3 more years I should start thinking about new phone.

How about a watch? How much you should spend on it? Usually we use watch for more than 5yrs. 12*5=60months. Considering 25k/pm salary, it comes to 250[sf]*60[ud]=15000. Which means you can easily go for swatch/rado watch! Its really worth. it!

For your own house -
You would use it for 30yrs, which means 30*12=360months. 360(ud)*250(sf)=90000. Now this is completely wrong. For such assets, importance coefficient of 10 or more could be applied.

For a car,
utility duration = 10yrs = 120[ud]*250[sf]*10[im]=300000rs.

There is another perspective to the importance coefficient. This should be chosen as -
importance multiplier=100/number of similar things that you wish to have

For example, you might want to own 3 houses. Which means im of 100/3=33 should be applied. If you recalculate again then this is now this is closer to what we usually spend to own a house in bigger cities like Pune.

Similarly for car, if you start at the age of 25, you might own 4 cars in you life time. 100/4=25. If you apply  im of 25 then you can spend 120[ud]*250[sf]*25[im]=7.5lakh for car.

How about some commodities? Is pizza worth? Is pavbhaji worth?
pizza : utility duration - 1/30month but probably you eat pizza once in a week, so its 7/30. now 7/30*250=53rs. But pizza is much more costly than 53rs. Which means we are definitely over spending! This also means that you should eat pizza once in 5 months to make it worth. However, pavbhaji is a worthy spending as it costs closer to 53rs and hence you can eat pavbhaji once a week :)

If you calculate most of the good's cost you will realize that this model fits well in most of the scenarios. But there are some definite outliers.

Now some reasoning behind this model -
gc of 100 is chosen because with this value, meaning is, you can buy 100 such things in a month. If you count all things that you buy in a month(even commodities like bread, biscuit, subji, wheat, rice, CDs etc) 100 is a good and large enough number.
Utility duration is important as the amount of time perticular thing lasts varies. Short utility value things cannot be costly as one cannot afford it
Similarly, there is importance attached to some things like car, house or your hobbies, so in such cases higher coefficient could be applied.

Its kind of tricky to find out utility duration and importance multiplier, but in most cases you can find some aggreeable and correct number or you can deduce that number from other thing in that catagory(like pizza vs pavbhaji comparison). Also you can apply usual notions of something being more useful or more costly to alter [im], but 1 is a good default. Like non veg food is more costly than veg food is acceptable and hence non veg food has higher [im]. Or education might be costly, but its very important so its ok to use unusually high importance multiplier for it.

So try using this simple but useful model which can explain your spending decisions to some extent at least. This should give you a good baseline...

Petrol Car vs Diesel Car

I was searching on this topic when I wanted to buy new car. There is plenty of information available but I did not find anything targeted specifically at what I was looking for. Here is kind of consolidated list of all the arguments, my own thoughts and my conclusion. For other things, interested people can have a look at Team BHP site, http://www.team-bhp.com/
You will find most of your car queries answered there.

Coming back to the topic, When going for new car, apart from the company and model, you have the choice about the fuel. So which fuel you should use?
There is significant cost difference between initial price of petrol and diesel vehicle. Price wise diesel car would become preferable only if you are able save enough money (because of cheaper fuel and better mileage of diesel) to compensate for this initial price difference.

Petrol prices are lower in India than diesel. Reason for this is not very technical. Its mostly because diesel is subsidized. Diesel is used in heavy vehicles for Good's transport and hence the subsidization. This keeps the commodity prices low as transportation cost is reduced. Many car manufacturers manipulate this basic price difference and come up with car engines that can consume Diesel. Diesel engine cars are not very popular in western countries and also all premium vehicles almost exclusively run on Petrol.

Technically speaking, Diesel should be cheaper than petrol because Diesel is less refined than Petrol in distillation process and hence Diesel production is cheaper than Petrol production. But this production cost wise difference is smaller and difference that we see in India is larger and out of proportion because of the subsidization.

Petrol engines have better performance characteristics and lesser maintenance. Diesel produces more soot and is more sensitive to fuel and oil contamination, hence maintenance cost is higher. Also diesel engines produce more vibrations. Higher maintenance cost is also aggravated because of higher compression of the diesel engines. As there are no spark plugs in diesel engines, more compression is required to keep the engine running.

Diesel engines are mostly used in high power, slow acceleration vehicles and compared to Petrol, diesel have more resale value. All above arguments about diesel engines are getting more and more weaker with newer diesel engines which incorporate advanced technology like Common Rail Direct Injection (CRDI) and hence buying a diesel car is making more and more sense.

One interesting thing to note is, though, that diesel cars are costlier than petrol cars. Typically price difference is 80000rs to 100000rs in India. And also rate of growth of Petrol prices is much higher than that of diesel. As diesel price change has more impact on economy, government cannot change diesel prices very frequently and with same rate as that of petrol. Having petrol car affects you psychologically more. Because you pay higher per km, you think more before using a petrol car. In case of diesel you hardly need to worry about the fuel consumption as price you pay per km is much lesser than Petrol. Even when you compare public transport rates per km with that of diesel car, diesel is on par. This has huge positive impact on your mind and you tend to use your diesel car more frequently than equivalent petrol car.

After all above arguments I still feel that petrol car is more value for money than diesel cars. Hence couple of years back, I chose to go with petrol car. Diesel car purchase would become good deal only after certain period of time. To achieve this break even(because you pay higher for diesel engine) it might take 2yrs to 5yrs depending on usage. My recommendation is, only if you have 15000km running per year, you should go for a diesel car.

Here is some interesting maths, which can prove my point -
Following is the total cost to travel 500km by both fuels, with current fuel rates in Pune :
2737.69rs : with petrol, distance - 500 km, price - 71.18rs/litre, 13kmpl avg
1271.47 : with diesel, distance - 500km, price - 43.23rs/litre, 17kmpl avg
hence difference : 1466 for 500km i.e. 2.932rs/km difference
Initial price diff between petrol and diesel car - 80000rs
hence, you need 27285.12 km running before diesel car is more profitable.

Some of you might not agree with average of diesel and petrol engine. Hence following is revised calculation which is more in favour of diesel cars because these averages are not realistic -

cost to travel 500km by both fuels, with current fuel rates in Pune :
3235.45 : with petrol, distance - 500 km, price - 71.18rs/litre, 11kmpl avg
1080.75 : with diesel, distance - 500km, price - 43.23rs/litre, 20kmpl avg
hence difference - 2155 for 500km i.e. 4.312rs/km difference
Initial price diff between petrol and diesel car - 80000rs
hence, you need 18561.48 km running before diesel car is more profitable.

I have not considered higher maintenance cost associated with diesel(like diesel engine oil is costlier). Obviously if you own car for more than 5 yrs, eventually diesel car would turn out to be more profitable. But you should also consider that if you can invest 80000(difference between petrol and diesel car) in fixed deposit, it would generate enough interest. This interest you can again put in buying more petrol. This would mean that you would achieve the break even at even later stage. If you are buying car on loan then obviously this break even could take even longer.

Overall I favour Petrol car over Diesel, as of now at least.

P.S. : Before I conclude, some account of total spending I have done on my car(i10 magna, kappa engine oct 2007 purchase) in last two years - Insurance, 9000(second year), 7500(third year)
Paid servicing - once, 3000
Oil change - 900*3=2700
other expenses - some painting 2000, some stupid mouse ate by windshield fluid pipe which costed me around 300rs
Total expenses - 25000 in two years