![]() The first is simplicity: the questions should measure knowledge of the building blocks fundamental to decision-making in an intertemporal setting. Translating these concepts into easily measured financial literacy metrics is difficult, but Lusardi and Mitchell ( 2008, 2011b, 2011c) have designed a standard set of questions around these concepts and implemented them in numerous surveys in the USA and around the world.įour principles informed the design of these questions, as described in detail by Lusardi and Mitchell ( 2014). Three such concepts are (1) numeracy as it relates to the capacity to do interest rate calculations and understand interest compounding (2) understanding of inflation and (3) understanding of risk diversification. These concepts are universal, applying to every context and economic environment. There are a few fundamental concepts at the basis of most financial decision-making. To provide the tools for better financial decision-making, one must assess not only what people know but also what they need to know, and then evaluate the gap between those things. In the context of rapid changes and constant developments in the financial sector and the broader economy, it is important to understand whether people are equipped to effectively navigate the maze of financial decisions that they face every day. Measuring financial literacy: the Big Three In the following sections, I describe how we measure financial literacy, the levels of literacy we find around the world, the implications of those findings for financial decision-making, and how we can improve financial literacy. Furthermore, there is evidence of a lack of confidence, particularly among women, and this has implications for how people approach and make financial decisions. The average hides gaping vulnerabilities of certain population subgroups and even lower knowledge of specific financial topics. On average, about one third of the global population has familiarity with the basic concepts that underlie everyday financial decisions (Lusardi and Mitchell, 2011c). Financial literacy is low even in advanced economies with well-developed financial markets. Thus, financial literacy refers to both knowledge and financial behavior, and this paper will analyze research on both topics.Īs I describe in more detail below, findings around the world are sobering. The Organisation for Economic Co-operation and Development (OECD) aptly defines financial literacy as not only the knowledge and understanding of financial concepts and risks but also the skills, motivation, and confidence to apply such knowledge and understanding in order to make effective decisions across a range of financial contexts, to improve the financial well-being of individuals and society, and to enable participation in economic life. In this context, it is important to understand how financially knowledgeable people are and to what extent their knowledge of finance affects their financial decision-making.Īn essential indicator of people’s ability to make financial decisions is their level of financial literacy. Moreover, the exponential growth in financial technology (fintech) is revolutionizing the way people make payments, decide about their financial investments, and seek financial advice. From student loans to mortgages, credit cards, mutual funds, and annuities, the range of financial products people have to choose from is very different from what it was in the past, and decisions relating to these financial products have implications for individual well-being. Simultaneously, financial markets are rapidly changing, with developments in technology and new and more complex financial products. Skills are becoming more critical, leading to divergence in wages between those with a college education, or higher, and those with lower levels of education. Individuals have also experienced changes in labor markets. In many countries, employer-sponsored defined benefit (DB) pension plans are swiftly giving way to private defined contribution (DC) plans, shifting the responsibility for retirement saving and investing from employers to employees. With life expectancies rising, pension and social welfare systems are being strained. Throughout their lifetime, individuals today are more responsible for their personal finances than ever before.
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