Standard costs serve as benchmarks that represent expected future costs required to achieve an objective or goal. In business, these costs are mainly used for decision management and decision control. The same control applications can be employed for family finances. The related concepts that are exercised in business prove beneficial to several areas of family finance described below.
Families operate very similarly to businesses, working together to reach common family-related objectives through setting goals. Similar to businesses maintaining mission statements, families develop unofficial, unwritten family standards and themes. Within the overall family objective are many smaller objectives that change with time, economic demands and other internal or external factors. Standard costs provide businesses with a mean for decision management and control in order to assist them in reaching their objectives, and thus, the principles can be applied to family finance in the same manner to achieve common objectives.
The application of standard cost systems provides businesses with the incentive effect to achieve costs less than or equal to the standard costs required to achieve the business objectives. When these costs are used as a basis for performance evaluation, incentives are created for management to control their costs. With this incentive comes the possibility of discouraging cooperation when individuals are not rewarded in the same manner as the whole unit.
Let us examine a family of four attempting to save money to reach a family objective: going on vacation to California next summer. This objective is set when the parents have a discussion on how to spend more time bonding as a family, equivalent to a board of directors setting a top-down objective. In order to reach the objective, the family realizes that they must save $5,000 in the next year and that they must achieve this through decreasing their family spending since there are no anticipated increases in family income. In order to achieve the objective, the family must work together to achieve increased savings. In a business, if an individual is rewarded based only on what they produce then they may not be motivated to work with the other individuals in the department to ensure they are also attaining the same levels of productivity. However, if the same individual was rewarded at multiple levels, both individual and departmentally driven, then there would be more incentive for cooperation. The same must occur for the family in the example. In a case where the vacation itself is the only reward, if the children are not as excited with the family vacation destination then they may not be as motivated to work towards the family’s savings. If other individual level rewards are set (i.e. stickers, one on one time with the parents, or an hour extended curfew for teenagers) then the unit would be working together more cooperatively to reach the overall objective of the family vacation.
Family budgets have a direct impact on the savings available for the family. In discussing the same family of four with the objective to save $5,000 to acquire enough funds for a family vacation, cost concepts can be applied to the family’s budgeting function. The family should use the basic concepts of a standard cost system to set an overall budget for the year. The budget should then be drilled down further to set costs that must be met in each budgeted category. For example, if the family calculates that it can only spend $300 on groceries bi-weekly then they should apply standard costs to each grocery item to ensure that overspending does not occur. If the family sets a standard cost for cereal at $2 then the concepts should be applied so that cereal is not purchased if it is above $2. If purchasing were to occur above the $2 cost then the vacation may be sacrificed.
Another incentive effect can be applied to this situation; building inventories when price discounts occur. The recently popular occurrence of extreme couponing illustrates this incentive effect. Extreme couponing is a pop culture hobby with the goal of stocking up on items when they are below the standard cost. This strategy involves meticulous planning and monitoring of standard costs for household items, clothes, groceries and even vacation packages. Utilizing this strategy to stock up on goods or build inventories when prices vary below their set standard cost range can assist the family in reaching its end objective. Prices and costs can change because of inflation, demand, resources and many other economic factors. Therefore, it is important to mention, especially in the case of long term objectives, that standard costs should be constantly examined and updated.