The End of the Latte Era?

Every day it becomes increasingly clear that the Great Recession marks the beginning of a a New World Economic Order.  And with the new comes an end of many parts of the old.  Some will not be missed.  (E.g. no-doc mortgages, investment banks, Circuit City.) Others will be missed by the nostalgically Latte crop Tim Boyd inclined.  (Newspapers that actually print on paper, the Big Three Automakers, movie theatres.)

And last week Free Money Finance brought sad news of another part of our culture that is disappearing.  Maybe The Latte Factor is Now Less of a  Factor?  Apparently, caffeine vendors from Starbuck to McDonald’s are now cutting prices, meaning that doing without your morning fix just isn’t the compelling savings it once was.

Not that it was really ever that compelling.  Indeed, I am saddened by the news because The Latte Factor® is such an excellent example of symbolic frugality that I will miss it.  Realizing that this may be my last chance to take it out for a spin, here goes.

The Latte Factor® was originated by David Bach, author of The Automatic Millionaire.  (He only uses the R in the circle thing the first time he mentions it. I will use it every time because I’m proud I got my editor to do it and because I think it’s funny.) The Automatic Millionaire is itself something of an outdated antique, published long ago when how to become rich, rather than how to avoid being poor, was the usual focus of personal finance books.

In a nutshell, Bach’s point was that although you feel that you have no money that you could save, you spend $3.50 a day treating yourself to a latte at Starbucks. If only you did without this frivolity you could save this money and become rich.

Bach makes his case for The Latte Factor® using some very dubious math. Recounting his conversation with a young lady with a caffeine habit, he starts by deftly grossing up the $3.50 latte into $5 a day with the non-fat muffin included. Then he annualizes saying “That equals $150 a month or almost $2,000 a year.”  I am the kind of guy who intuitively knows that $5 a day is $1825 a year and guys like us do not think that that is almost $2,000. He continues “Figuring, say, a 10 percent annual return, which is what the stock market has averaged over the past fifty years, how much do you think you could save by the time you are sixty five?” Bach then triumphantly informs the twenty-three year old that those lattes were costing her nearly $1.2 million retirement dollars.

Bach is right that the US stock market has averaged about 10% over the past 50 years. But inflation was also relatively high during the second half of the Twentieth Century, so the real, inflation adjusted, return was meaningfully lower. Even if we assume that the experiences of the previous decades will be repeated over the next ones, that $1.2 million Bach promises the latte drinker will not be worth what she expects when she retires. In fact, assuming an inflation rate of 4%, it will take $5.19 to buy in 42 years what $1.00 buys today. So $1.2 million when she is 65 is the equivalent of only about $231,000 in today’s money.

And then there is the recurring wet blanket known as taxes. Lop off a fourth as a rough estimate, assuming the use of a tax advantaged retirement account [is not used]. So that gets me to an inflation-adjusted, after-tax, latte-based retirement nest egg of around $173,000.

Which is still not bad. But keep in mind that it comes at the cost of a latte and muffin a day, seven days a week, for 43 years, or a grand total 15,695 forgone Starbucks visits.  It’s entirely possible that those untaken coffee breaks would have been enjoyable.

The Latte Factor® is an example of what I call The Popeye Ploy™. (I use TM on the advice of my attorney, who says that it is more amusing.) The Popeye Ploy™ is a strategy for getting someone to do something that they do not want to do even though it is good for them. Imagine that you want your kids to eat more spinach, which will over time have positive health benefits. Unfortunately, your kids are not very appreciative of the long term effects of a healthy diet on such things as blood pressure and cholesterol. So you take some liberties with the truth. Eating spinach, you tell them, will within seconds give them an immediate boost in size and strength that will allow them to beat up any bully.

So it is with The Latte Factor®. Saving money by not absent-mindedly spending so much on expensive frivolities is a good thing. But it is not that good a thing. It is not particularly exciting and the payoff after many years is relatively mundane. $173,000 may be, probably is, preferable to a lifetime of lattes. But it is not a slam dunk and Bach worries that if the numbers are not really compelling, you, his child-like listener, will not bother.

The idea that you can become rich by passing up on some of your many incidental purchases appears to strike a chord with many. This is not because the numbers are all that compelling. It is because the psychology is. I believe that the most effective place for most people to economize is on the things on which they spend the most. The practical problem with that is that those big-ticket purchases are relatively rare, so saving money on them gives a person too few opportunities to feel virtuous. Worse, it takes some planning and waiting, while not going to Starbucks is something you can do today.

[Photo: Tim Boyd]


  • By Jim Blankenship, CFP®, EA, May 19, 2009 @ 10:08 am

    (fyi, I use the little ® thing because the CFP Board of Standards requires it)

    I hate to see the Latte Era go away… it always made for such pithy examples and flawed math (as @Frank has pointed out).

    Whether or not cutting back on small expenditures is less impactful than large expenditures is up for debate – it probably depends on each individual situation. I think the individual has to understand his own capacity and weigh that against spending habits. If you have the wherewithall to have a latte every day, then by all means, enjoy it! But know the consequences if you’re, for example, not making child-support payments as a result.

    Retirement savings can be thought of as an additional expenditure, if that helps: you’re purchasing a cash flow in the future. While a formal budget likely isn’t necessary for everyone, if you’re in a position where a latte per day is jeopardizing your ability to pay the bills (including retirement savings), you probably need to plan out a prioritized budget and stick to it.


  • By maxwellthedog, May 19, 2009 @ 10:30 am

    Good post. I agree that focus on the big things (where people often make uninformed or poor choices) is the best place to start. Plus, I love coffee.

    One small quibble with your math, though. If you are going to ding the savings with a 4% inflation rate, then you also have to gross up the cost of coffee purchased each year by the same 4%. This yields about $1.8M saved, or $265K in inlfation-adjusted, after tax dollars.

    Not that this changes the final conclusion, or renders Bach’s conclusion as any less inflated, but you do need to be consistent.

    And besides, where is the accounting for the increased job performance, accelerated promotions, and higher pay that inevitably results from all of that life-sustaining java?

  • By Rob Bennett, May 19, 2009 @ 11:31 am

    I’m glad to see you correct the math used, Frank. It’s always a good idea to report numbers accurately, in my view (I am one of those annoying people who believe that this rule should even apply in discussions of personal finance!).

    However, I am a big believer in the concept being conveyed by the latte factor discussions. Most people sweat big expenses. We spend lots of effort thinking through whether to buy a car or not. But we don’t put much effort into watching what we spend on everyday expenses. That’s where the real money is, in my experience.

    Forget lattes. Look at your eating out bill or your groceries bill or your transportation bill (if you have more than one car). Most of us can save large amounts on these categories and retire a good bit sooner by doing so. The most important cost of a car is often not the sticker price (re which we are careful) but the interest on the loan and the gas and the insurance and the repairs and the parking fees. We all tend to let the little stuff go far more than we should, in my view.

    Still, we really should do the math right. There is no need to spin the numbers to make the point that needs to be made.


  • By SJ, May 19, 2009 @ 12:56 pm

    I started laughing at the Popeye Ploy(TM)… but I like spinach =)

  • By Dave C., May 19, 2009 @ 1:38 pm

    Warren Buffet, who is apparently notoriously frugal, has been quoted at being flabbergasted by the (relatively small) amount of money his wife wanted to spend on new curtains for their modest home, exclaiming that the money would be so much more in compounded interest after so many years.

  • By My Journey, May 19, 2009 @ 1:41 pm

    Ummm if you explained the Latte Factor in a 300 word post, what the hell does the book say after the first chapter?

  • By Frank Curmudgeon, May 19, 2009 @ 2:10 pm

    My Journey: First off, that was a 968 word post, thank you very much.

    Bach explains the Latte Factor in Chapter 2 of The Automatic Millionaire. Chapter 1 is his tale of personal redemption, wherein he was saved by learning the secret to getting rich from a kind stranger, etc. The rest of the book details ways you can keep your childish self from spending all your money by keeping it out of your own reach. It’s what’s in his other five books on the same theme that has me wondering. (But not enough to get me to read them.)

  • By Klaas, May 19, 2009 @ 2:49 pm

    I don’t think your tax adjustment applies. Lattes are bought with after-tax money, so wouldn’t the $5 breakfast be analogous to a $5 Roth investment on which you would not pay any more taxes?

  • By Frank Curmudgeon, May 19, 2009 @ 3:30 pm

    Klaas: That’s an annoyingly good point. I’ll edit the post accordingly.

    Maxwellthedog: You also make a good point about inflation, which I thought of when I wrote the post, honest, but the premise is that latte prices are actually going down. Further, it’s not something that Bach factors in, so I assume he doesn’t intend the saver to increase what gets put away with inflation.

  • By Rick Francis, May 19, 2009 @ 4:55 pm

    I agree that the numbers shouldn’t be fudged upward. However, even if we are at the end of the Latte Factor there is still an important concept there- small daily expense can add up significantly because they occur so frequently. Lattes may have gone out of fashion, but I’m sure that many people still eat out for lunch and/or breakfast every day. If you can cut out a $10/work day expense you can save about $2500 a year which is half of an IRA’s contribution limit.
    To find the other half, you could cut out some monthly- cell phone plan, cable TV package, internet, etc. is the next logical area that you could free up a significant amount to invest. I could see those monthly costs totaling over $208.33- which would be the other half of a fully funded IRA contribution.
    When it comes time for a big purchase treat it seriously- put in the research to know what you should buy then haggle or shop around to get a better price.
    Finally, watch how you pay for things- watch the financing terms of a loan as Rob mentioned but also consider the cost of the credit card interest and fees.
    These changes aren’t going to make you the next Bill Gates- but they should make a big difference in the quality of your retirement and none of them are that difficult either.

    -Rick Francis

  • By maxwellthedog, May 19, 2009 @ 10:10 pm

    klaas, actually i am not sure your point holds. just because someone is paying for lattes with after-tax dollars does not mean they have a tax-free investment vehicle available for those dollars. if the person in question was already maxing out their Roth IRA, or did not qualify for one, then the incremental (after-tax) dollar saved and invested from forgoing lattes will have its returns taxed over time. because you do not know if the person has capacity in an IRA or not, then you should probably leave in the adjustment to be conservative.

    Rick Francis, while i understand your point and your math, i think you also prove the other side of the argument with your list. you may not want to buy a $5 latte every day, but if you want coffee you should have coffee (and it costs *something* either way). and when you start talking about people getting rid of a cell phone, their TV service, or their internet provider, then you are going to lose a lot of readers.

    renting a less expensive apartment, buying a smaller, more energy-efficient house, buying a reliable, inexpensive used car, and never carrying a credit card balance will all save you a lot more money than the incremental dollars saved by brewing your own coffee vs. buying it at a store.

  • By Matt, May 19, 2009 @ 11:34 pm

    Not only is saying “almost $2000″ misleading, but I don’t think 365 x $5 ($1825) is accurate either. I think 5 working days x 52 weeks x $5 is more realistic, which yields the even less meaningful figure of $1300 a year. I absolutely hate it when people make sweeping generalizations about frugal practices without doing the math, which is why I love this blog.

    Another good example is the myth that getting a hybrid car will for sure save everyone a ton of money on gas. For people that drive a ton sure, but many many people pretty much drive less than 10 miles to work every day and that’s about it, meaning that their annual mileage is in the neighborhood of 5,000 miles, meaning that annual savings in fuel is only a few to several hundred dollars. (I keep track of all my gas tanks and mileage in a spreadsheet, as do my wife’s parents, so I’m not making these figures up.) I don’t know about you, but a few hundred dollars a year is not worth it to me as THE major factor in a decision as large as what car you might buy.

  • By kurt, May 20, 2009 @ 11:29 am

    The “latte factor” may be stupid and the math supporting it is certainly below third grade level, but to second the point that Rick makes, curtailing wasteful spending can add a lot of value. If someone is making 100K a year, then that $1300 spent on coffee isn’t so important, if they’re making $50K with two kids, then maybe it is (particularly for the insanely large percentage of the population who claim they have no emergency fund set aside). I would guess that the author (in very poor fashion) is merely trying to get people to examine what they are pissing away their paychecks on.

  • By Frank Curmudgeon, May 20, 2009 @ 11:54 am

    Just to clarify, I’m not objecting to the idea that you can save money on small daily purchases. Obviously, you can. But Bach’s argument goes further: you can save on daily purchases in a way that is nearly unnoticable and that will make you rich. This I object to.

  • By GPR, May 20, 2009 @ 1:32 pm

    Don’t we also need to calculate the replacement cost of whatever we eat when not getting a latte and muffin? If I don’t go to the nice coffee shop downtown, I make coffee and peanut butter toast at home. Far cheaper, far more depressing. But still gotta calculate it in somewhere. And the coffee ain’t cheap, because I am totally spoiled.

  • By ObliviousInvestor, May 20, 2009 @ 2:03 pm

    As to Bach’s other books: I’ve read 3 of them (Smart Women, Smart Couples, and Start Late). And for the most part, I’d argue that Automatic Millionaire is his weakest by far.

    Just about the only thing in it is the Latte factor and the (exaggerated in the book, yet still powerful in real life) effect of compounded earnings.

    His other books cover a much broader range of topics.

    Not to say that they’re perfect of course. For example, his advice on selecting a mutual fund consists basically of going to morningstar and finding the one with the highest 10-year returns, then investing in it. :(

  • By Matt, May 21, 2009 @ 1:24 am

    “…those big-ticket purchases are relatively rare, so saving money on them gives a person too few opportunities to feel virtuous.”

    Taking a step away from the math for a moment, I think the psychological aspect of this kind of error goes further still. It’s not just that we want to feel virtuous (and proactive).

    It’s that we prefer to believe that rewards will flow from virtuous behavior—especially self-denail—as opposed to from rational behavior. And any evidence, however bad, that seems to confirm this assumption somehow rings true.

    That is to say, anyone telling us that we should be enjoying life less must be right.

    Great post.

  • By Elle, March 4, 2010 @ 6:19 pm

    My issue with the whole Latte Factor and other principles like it is these personal finance gurus are telling everyone to cut back so many little things that there is no room to live. So I cut out my daily lattes and save that money. And I cut out cable and I never go out to eat and I cancel netflix. So should I sit at home all day and night and not live my life? I understand these principles are targeted towards those heavily in debt with those habits. But not drinking coffee is pennies in comparison to the dollars people waste. Why do students get out of college and insist they are too good to live with roommates or can’t live in a simple studio uptown because they HAVE to have a doorman and live in the best area? That’s where the sacrifice and savings are–not in avoiding a cup of coffee. I don’t want to lay on my death bed and think, hey I got millions in the bank but I haven’t drank a cup of coffee, eaten out or watched a movie in 50 years!!! and your kids just spend the inheritance anyway. Woohoo, I life well lived.

    Teach people to save the dollars!!!!

  • By Shayne, June 26, 2019 @ 9:04 am

    Thanks for finally writing about >The End of the Latte
    Era? | Bad Money Advuce <Liked it!

  • By adult driend finder, October 9, 2020 @ 2:33 am

    It’s an awesome piece of writing in favor of all the internet users; they will take benefit from it I am sure.

Other Links to this Post

  1. A Popular Savings Principle Gets Ripped To Shreds | Blog Feeds — December 4, 2012 @ 7:19 pm

  2. Why Dumping Your Coffee Habit Isn't The Best Savings Plan | Finance Advice Blog — December 7, 2012 @ 1:07 pm

RSS feed for comments on this post. TrackBack URI

Leave a comment

WordPress Themes