Is debt your destiny?

By MP Dunleavey

You are aware, of course, that you're in debt. Deep down, you probably know how and why you got there. You even know that tracking your spending, setting up a budget -- etc., etc., etc. -- is what it takes to be debt-free. Yet you're still stuck.

The frightening thing? You're likely to stay stuck in the debt trap for years, economic data show.

Debt isn't just a pain. It has become an epidemic that has infected not only how we live and spend but even how we think.

Here's why, and what you can do about it.

Borrowing is too easy

The credit crisis has made it clear just how pervasive and poisonous the debt lifestyle is. It's gotten bad enough that government officials are suddenly jumping up and down about the nefarious practices of banks and credit card companies:

• In response to the continuing mortgage meltdown, President Bush recently signed the Housing and Economic Recovery Act to shore up lenders and protect homebuyers. (See "Will the housing rescue help you?")

• Outraged members of Congress have proposed bills to end some of the nasty games credit card companies play. (See "Sleazy credit card tactics under fire.")

Meanwhile, how did millions of Americans get sucked into this quicksand of fast and easy credit?

About 30 years ago, Congress started loosening the rules governing the banking and credit card industries, and borrowing became as simple as preparing Jiffy Pop popcorn. As of June, Americans' outstanding consumer debt totaled $2.25 trillion.

The federal Survey of Consumer Finances tracks debt per household. In 1989, the median household credit card debt was $1,300; in 2004, it was $2,200 (both figures are expressed in 2004 dollars).

Credit alters the brain

What few people understand is how the easy access to credit collides with the darker side of our financial natures.

Many people have a convoluted relationship with money, often in ways they are unaware of. You might think, looking at the amount of money we've borrowed, that Americans looooove to spend.

Actually, most people hate parting with cash. But credit cards (and lines of credit and other variations on borrowed funds) make spending seem painless, and the reason involves a phenomenon economists call "coupling."

Numerous studies have demonstrated that when a purchase and the payment for it are closely linked -- as when you spend cash -- you are more aware of how much you spend and tend to spend less, says Dilip Soman, an economist and professor of marketing at the University of Toronto.

Uncouple the purchase from the payment -- as when you whip out a card or tap that home-equity line of credit -- and you suddenly become much fuzzier about how much you spend. In those situations, you tend to spend more, Soman says.

Not only that, Soman adds, but the widespread use of credit is profoundly altering our financial reasoning.

"As we as an economy move toward a cashless society, it has tremendous implications for our overall spending patterns," he says. "When you change the payment mechanism, you change the process by which people make their buying decisions" -- not only the volume of what we buy but also the products we choose.

Spending in a haze

Paying with plastic seems easier when you're standing in line at the Best Buy register, about to buy those Bose speakers.

But relying on credit can create a carelessness about your personal finances, a blind spot the size of a barn, that paves the way for overspending and ultimately a lifestyle anchored by debt. The following experiences are common:

Did I buy that? Many people who pile their purchases onto a credit or debit card forget what they buy. When purchases are bundled together -- in tiny type, on a crowded statement -- "it becomes incredibly hard for people to keep track of what they pay for things," Soman says.

Small purchases in particular -- $10 on magazines, $23 for a round of drinks with friends -- get lost in the proverbial sauce, he says.

Result: Not only does forgetfulness foster a tendency to overspend, Soman says, but it becomes almost impossible to keep a budget. "People think they are going to spend a certain amount in this category or that, but with plastic, those amounts become totally inaccurate."

Did I spend that much? Most people who pay with plastic chronically underestimate what things cost, Soman says.

You'll report the base price of those Bose speakers you bought, but because of the amnesia that plastic can cause, little things like tax or the six-year warranty get magically deducted in your brain.

Continued: Cloudy thinking

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