Thursday, June 27, 2013

Wanted: Ambassadors for Financial Literacy

In a country where people talk about sums in the millions and billions of dollars, where workers must figure out how much they need for retirement then wander off on their own to make those investments, and where borrowers are bombarded with opportunities for piling on debt, one in four adults cannot do a simple 2 percent calculation. 

And fewer than one-third of Americans can answer three simple questions that assess basic numeracy, knowledge of inflation and understanding of risk diversification.
Yes, we are a country of financial illiterates.

That’s what was revealed in the 2012 National Financial Capability Study, released a few weeks ago, which evaluates adults. When you look at teenagers, the results are even more chilling. Data published bi-annually by the Jump$tart Coalition for Personal Financial Literacy showed that only 7 percent of high school students are financially literate. 

Seven percent!

But it’s not so much about the statistics. What’s most important is the behavior that results from that lack of basic financial knowledge. People who are not financially literate are less likely to plan—or save—for retirement. And they are more likely to rely on costly borrowing, paying high fees and ending up in financial trouble. A paper by Stephan Meier at Columbia Business School and other scholars published this week concluded that people who are stymied by financial concepts are far more likely to default on subprime mortgages.

The President’s Advisory Council on Financial Capability issued a report a few months ago that outlined strategies to address financial literacy. One recommendation stood out: to include financial education in school curricula. There are four compelling reasons to support this. 

First, you must be financially literate to navigate today’s complex world. This has become so evident that the OECD’s Programme for International Student Assessment (PISA) last year added financial literacy to the skills (along with math, science and reading) that it tests in 15-year-olds around the world. 

Every three years, PISA gauges the following: Are students well prepared for future challenges? Can they analyze, reason and communicate effectively? Do they have the capacity to continue learning throughout life? The goal is to see if students nearing the end of compulsory education have the knowledge and skills essential for full participation in society. 

There is a second reason to bring financial education into the schools. At age 17, young people face a life-changing decision: whether to invest in higher education. What they decide carries vast income consequences over a lifetime. It also determines whether they begin their work years with instant debt. Options for financing higher education have changed and the cost of a college education has risen rapidly. That confluence means an average college student now takes on $26,000 in education loans. Graduation celebrations are now tempered with the reality of immediate—and significant—debt.

Financial education in schools also addresses the issue of equality. Who makes up that small percentage of students who are financially literate? White males from college-educated families. And research shows that this distinction is a lifelong one. Women, African Americans, Hispanics and the poorly educated display much lower levels of financial literacy than their counterparts at every step: in school, in middle age, before retirement and after retirement. 

Perhaps not surprisingly, this inequality in knowledge translates into inequality in wealth. As they near retirement, financially literate people tend to have greater levels of wealth than their counterparts who are not financially literate. According to my calculations, about half the difference in that wealth can be explained by financial literacy.  

Finally, by anchoring financial education in schools, we ensure that people are knowledgeable before, rather than after, they engage in financial transactions. Today many transactions—from using a credit card to opening a checking account to buying a car to signing up for a cell phone plan—start at an early age. They involve decision-making that is by no means simple.

You need not wait for our politicians to bring financial education into schools. Be an ambassador. Push your local high school to add financial literacy to an existing math or English curriculum. Ask the business community to support the initiative and train the teachers. It should not take much to convince a business-savvy person that it’s more economical to learn about finances in a high school than in the school of hard knocks.

Organizations like the Jump$tart Coalition for Personal Financial Literacy and the Council for Economic Education have designed standards that can be used in teaching. They have materials for both students and teachers. 

To naysayers who claim financial education does not work, I must point out that ignorance does not work either. Give education a try. As an economist, I know people need an incentive to take action. Here it is: Without some basic financial know-how, your children will move back in with you after college.