My former co-blogger Bryan Caplan recently posted an interesting table showing the net worths of households at each age range. Not surprisingly, the older you get, up to age 74, the higher your net worth. What would surprise many people who hear how strapped families are for funds is that 25 percent of the households whose head was between age 55 and 74 had net worths (in 2022 dollars) of over $1 million. How did they do it? Did they have high-paying jobs? Although Bryan doesn’t present data on incomes, the answer is that a high income is neither necessary nor sufficient for becoming rich.
In 1999, economists Dwight R. Lee and Richard B. McKenzie wrote a book showing how following seven simple rules, starting early in life, could get you to $1 million or more late in life. When I talk to people who are dispirited about their financial prospects, I try to buck them up by telling them these rules and, occasionally, buying them a used copy of the Lee/McKenzie book titled Getting Rich in America: Eight Simple Rules for Building a Fortune and a Satisfying Life. (Why eight rather than the earlier mentioned seven? I’ll explain later.) In my Wall Street Journal review of the book, I stated that their book is “is the how-to handbook for becoming the millionaire next door.”
Becoming a millionaire in Zimbabwe is hard. Becoming a millionaire in the United States is relatively easy, as I’ll show.
An aside about airplane conversations and being an economist
Thirty or so years ago, when I would be on a flight and people would actually talk to their seatmates, a standard question we asked each other was “What do you do?” When my seatmate found out I was an economist, he or she might ask, “What will happen to the economy?” I would reply, “I don’t know.” Or the person would ask, “What will happen to interest rates?” I would reply, “I don’t know.” I later changed that to “They’ll fluctuate.” Or the person would ask, “How can I get rich?” I would answer, “I don’t know.”
But as I observed my own and other people’s behavior, I realized that I absolutely do know how to get rich. To get rich quickly, you need a lot of luck. To get rich slowly, you need discipline. When I summarized it to people who asked, I would say, “Live below your means, and invest a large percent of your savings in an index stock fund.” Then compound interest—actually compound stock returns as you invest the dividends in buying more stock—does the rest.
Lee and McKenzie’s seven rules
Later I discovered that Dwight Lee and Richard McKenzie had thought through the issue more systematically and come up with seven rules for building a fortune and one rule for building a satisfying life.
Here are the seven, along with my comments on each.
1. Think of America as the land of choices. I often write criticisms of the many ways in which governments at all levels in the United States—federal, state, and local—limit our choices. They do so through licensing laws, minimum wage laws, and restrictions on building housing, to name just three. But there are still a lot of choices left. Instead of saying, “Ain’t it awful?” figure out which of the many remaining choices work for you.
2. Take the power of compound interest seriously—and then save. Apocryphal story: Famous physicist Albert Einstein was once asked, “What’s the most powerful force in nature?” His answer: compound interest. The earlier you start, the better, because it gives you more years of compounding. After doing a great job of saving in my late twenties, I had blown it all by age 31. But as soon as I proposed to my wife, when I was 32, I immediately started making plans to save in order to have a family, a house, etc. I started small with my 403(b) plan, the equivalent of a 401(k), saving 5 percent of my pre-tax income to get the employer’s 5 percent match. When I was 35, we bought a house with all our liquid funds, just to get to a 10 percent down payment, and spent a few years paying back a friend who had lent us money. After about five years, I took 1 percentage point of the inflation adjustment in my pay, and increased by that percentage point my contribution to my 403(b). I did that every few years. By about 1997, my and my employer’s contribution to my 403 (b) totaled 14 percent.
3. Resist temptation. This is a big one. It came easier for me than for many others because I had such a small allowance as a child and teenager, and had had to learn to husband my resources. So, for example, in the 1990s, when I discovered the pleasure of a Starbucks mocha, I didn’t have one every day. I made it a treat, having a tall mocha once or at most twice every week. When we went out to restaurants, we never ordered drinks. Buying alcohol at a restaurant for both parties can easily double the check. My wife drank maybe twice a year and so doing without alcohol was easy for her. If I badly wanted a drink, I had one before we left for the restaurant and she was the designated driver.
You can get carried away with resisting temptation. I don’ t think we did.
4. Get a good education. By education, the authors mean schooling. The higher the degree you earn, the higher your income. One of the tips they give about education is to take the professor, not the course. In speeches I give to undergrads, I have a section at the end in which I say that. I also add that a boring professor can ruin a course that sounds inherently interesting and that a good professor can make almost any course interesting. I also add that I am not advising them to take the easy A.
5. Get married and stay married. I’ve known a number of unmarried guys who had high income jobs but, at age 40, had close to zero net worth. As Dwight Lee told me on the phone when I was reviewing the book, “We’ve found empirically that you don’t need to be married to get wealthy if you follow the other rules, but if you’re not married, you tend not to follow some of the other rules.” As I noted earlier, once I decided to propose to my wife, I immediately started thinking about how to raise my saving rate.
How about the “stay married” part? Divorce is expensive. As I put it to my students when I taught this in class, “Fifty percent of American husbands, when they leave their houses, kiss their wives goodbye. Ninety-three percent of American husbands, when they leave their wives, kiss their houses goodbye. “
6. Take care of yourself. Being sick is expensive, even if you have Cadillac health insurance. You can lose time at work, for example. So don’t smoke, do drink alcohol moderately, and get regular cardiovascular exercise. Also take care of your teeth, especially with flossing. By staying healthy, you’ll live longer. That means, as Lee and McKenzie point out, you’ll have more time for compounding to work.
7. Take prudent risks. In your investment behavior, don’t bet a lot on one stock. Here I had a head start before reading the book. Between ages 24 and 28, I was an assistant professor at the University of Rochester business school, which had and has an excellent finance group. I learned finance by osmosis. I knew to invest at least 80 percent of my retirement funds in a broad stock market index. Over decades, the rate of return is at least a few percentage points higher than you get by investing in bonds. Compounding is even more impressive when the rate of return is higher.
A satisfying life
As a bonus, the authors give as their eighth rule, “Strive for balance.” They recommend that you engage in some kind of volunteer activity. I agree. When my daughter was in third grade, I volunteered to coach her and other girls in Pacific Grove’s basketball league. I enjoyed it so much that even after I had coached her for three years, I coached for another seven.
Conclusion
We Americans live in an amazing time. Well over half of us are wealthier than our parents were at the same age. While deregulating and cutting government spending and taxation would help even more, the fact is that the United States is still the land of opportunity. In their book, Dwight Lee and Richard McKenzie quote a lesson learned from his uncle by someone whose success they highlighted: “If you want your prayers answered, get off your knees and hustle.” Actor Ashton Kutcher said it even better in a 2013 speech:
When I was 13, I had my first job with my Dad carrying shingles up to the roof, and then I got a job washing dishes at a restaurant, and then I got a job in a grocery store deli, and then I got a job in a factory sweeping Cheerio dust off the ground. And I’ve never had a job in my life that I was better than.
Said Kutcher, “I believe that opportunity looks a lot like hard work.” Amen.
