The psychology of poverty

How cash transfers lead to better financial decision-making

As a banker, politician, philanthropist, archaeologist, biologist and ethnographer, Sir John Lubbock knew a lot about many things, but few would think of him as an expert on poverty.

Yet, in The Use of Life, published in 1894, a book that emphasises the importance of work-life balance, leisure, and the appreciation of nature, he noted that:

Work is as necessary for peace of mind as for health of body. A day of worry is more exhausting than a week of work. Worry upsets our whole system, work keeps it in health and order.

Inadvertently, Lubbock had touched on something many South Africans have experienced but that researchers have found difficult to quantify: the psychology of poverty.

See, poverty is not merely a lack of money. Imagine being so focused on immediate problems, like paying for food or rent, that you cannot think about anything else. This is known as the ‘tunnelling’ effect, the focus on the immediate that consumes all cognitive resources, leaving little room for long-term planning or consideration of broader perspectives, often trapping individuals in a cycle of stress and mental health issues like anxiety and depression. For children, the pressures and instability of poverty can disrupt learning and affect their long-term educational success.

The psychological strain of poverty also does not stop with mental well-being; it reaches into social life and decision-making too. Living in poverty can mean feeling isolated and judged, making it hard to connect with friends or join community activities. The need to make tough decisions with limited resources is exhausting and may lead to taking more risks or focusing solely on short-term solutions, further complicating an already difficult situation. Poverty’s stress can also lead to physical health problems, creating a complex interplay between mind and body. And family life can be strained, too, as parents’ anxiety affects relationships and the emotional well-being of children.

What, then, can be done to reduce poverty’s psychological burden? The most obvious, of course, is to reduce poverty. We know that the best way to do this is to improve our productivity. We do that by increasing our physical capital – more and better machines, from GPS tractors to ChatGPT – and our human capital – our terrible school system would be a good place to start. We also get there by improving our institutions, from Home Affairs to housing, health care to higher education.

But doing so is not easy. (If it were, it would have happened already.) There are a multitude of political economy constraints that influence the formulation and implementation of policies, ranging from institutional inefficiencies and legal frameworks to interest group pressures, public opinion, and the balance of power within a government. And, most importantly, it takes time.

Two recent studies in the Journal of African Economies, on Malawi and Zimbabwe, suggest a shorter-term solution. Both studies looked at government programs that gave money to very poor people, no strings attached. In the first, researchers in Malawi found that these cash transfers resulted in significant improvements in five measures of recipients’ psychological well-being, things such as happiness and stress reduction. On its own, that is a great result.

But this is where it gets interesting. As people’s mental states improved, they started making decisions that were better for their future. They were more likely to save money and plan ahead, breaking the cycle of shortsighted decisions that often keep people trapped in poverty. The researchers in Malawi found, for example, that people who felt happier were 11.2 percentage points more likely to wait for a future payout, and a unit increase in the Quality of Life scale led to a 6.9 percentage point (or 23%) increase in waiting for future payments.

The second study is a replication study of a similar programme in Zimbabwe. Here, too, the beneficiaries received unconditional cash transfers. It is worth pointing out that in both cases, the recipients are typical of other large national cash transfer programs across sub-Saharan Africa, such as Zambia, Mozambique, Kenya, Ghana, and Liberia; the typical beneficiaries are around 58 years old, primarily women, and living on less than 40 cents per person per day. And in Zimbabwe, the benefits were large, too: people in the program were 20% more likely to save for the future and felt better emotionally.

So, unconditional cash transfers do not just have a direct impact on financial decisions. They also cause an improvement in psychological states, such as optimism, happiness, and reduced worry about food. These results show that the link between mental well-being and financial decisions is not just coincidental; one actually affects the other. They also show that helping people out of poverty is not just about giving them money. It is also about understanding and addressing the psychological stresses that poverty creates. This might mean creating programs that support mental well-being in addition to providing financial help.

What is remarkable about these studies is that they were conducted in real-world settings. Unlike laboratory studies, which often occur in controlled environments and may involve artificial scenarios, these studies engaged with people living in poverty, capturing the nuances and complexities of their daily existence. The research from Malawi was also replicated in Zimbabwe, further strengthening the credibility of the findings. Replication studies are crucial in the scientific process as they validate or question previous findings by repeating the study under similar conditions. In this case, the replication confirmed the results from Malawi, showing that the observed effects are not isolated incidents but likely generalisable across broader populations. This strengthens the case for policymakers to consider these findings seriously.

In The Use of Life, Lubbock also writes:

There can be no merit in believing a fact for which we have no sufficient evidence; or in persuading ourselves that we believe something which we do not comprehend. Indeed, it is surely impossible to believe anything for which we are conscious that there is no good evidence. On the contrary, our duty is to believe that for which we have sufficient evidence, and to suspend our judgment when we have not.

Cash transfers cannot be a sustainable solution to poverty reduction. For that to happen, economic growth is vital. But we now have evidence that giving money to very poor people without any conditions not only makes them feel happier and less stressed but also helps them make better decisions for their future. Giving money to the poorest must be part of a government’s policies to fight poverty.

An edited version of this article was first published on News24. Image created with Midjourney v5.2.