How this common misperception can hurt your finances

Ghana’s GDP is about $46 billion. Bill Gates’ net worth is about $86 billion. This is what some people look at to say Bill Gates is richer than Ghana. This is a totally wrong but not an uncommon mistake. It is the mistake of confusing a flow variable with a stock variable.

Flow variables are measured over an interval while stock variables are measured at a particular point in time. GDP is a flow variable indicating the value of goods and services produced in a country in a period of one year. Net worth is a stock variable that measures the value of a person’s assets less any liabilities they may have at a particular point in time.

If you wanted to compare like for like then you will have to compare Bill Gates’ net worth with the value of all of Ghana’s land, gold, oil, buildings, territorial waters (and the fish within), bauxite, diamonds and so on. Or we can compare Ghana’s GDP of $46 billion with Bill’s net worth increasing by about $7 billion from 2015 to 2016. There we see that there is no match.

So how does this misperception hurt your finances? Let’s look at another flow variable: personal income. Each month many people earn income from employment, business or investment or some combination of all three. These are flow variables. Yet they also have stock variables like their bank account balance, value of their property and investment portfolios. If you treat your stock like it is a flow, you could be in financial trouble.

For example, having GH¢10,000 in your bank account is very different from earning GH¢10,000 a month. This is obvious but it is not exactly easy to distinguish in day to day spending. Having a large stock can give you the false sense of security that your flow is also large. This is especially true when you do not keep records of your expenditure.

So how do you avoid this? Keep records of your expenses through any of the many savings apps you will find for android or iOS and try to let your revenue match your expenditure. When those two flow items match then you can be sure that at least, you’re maintaining the value of your stock.

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Jerome Kuseh

Financial Analyst | Accountant | Private Investor
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