Ramit at I Will Teach You to Be Rich has a fine post about how sometimes the Best Decisions are not the Financially Smart Decisions.

The financially smart decision isn’t always the right one. When I say this, it usually irritates engineers and economists, who love to believe that we all behave rationally.

He provides a couple of examples based on the behavior of his friends. One worked hard to pay off a low-interest debt instead of investing the money at a higher rate of return? Why? Because this friend hated debt. Another friend paid back $100 extra each time she borrowed money from family or friends.

This dichotomy — Best Decisions versus Financially Smart Decisions — reminds me of the Debt Snowball method of debt reduction I described last week in Two Approaches to Debt Elimination. Paying off your debts from smallest-balance to highest-balance doesn’t make the most sense mathematically, but for many people it is the Best Decision because psychologically it provides short term financial victories that lead to long-term financial independence.

I’m sure there are hundreds of little examples of other financial decisions that don’t make sense from a rational perspective, but which are important nonetheless.

This article is about Choices, Real-Life  Wednesday, 3rd May 2006 (by J.D. Roth)