Does financial literacy matter?
Oran Hall Personal Financial Adviser
In 2012, the Financial Services Commission funded a financial literacy measurement exercise which spanned all 14 parishes of Jamaica.
It was based on a survey instrument developed by the OECD INFE, which ought to measure the financial knowledge, attitudes and behaviours of the respondents.
The proportion of the respondents recording high scores are as follows: knowledge (47 per cent), financial behaviour (57 per cent), and attitude (63 per cent). When all three were considered, 25 per cent of the sample recorded high scores, which is a fair way off the 35 per cent who recorded a high score in two of the three areas.
Fifteen per cent of the sample showed no evidence of financial literacy.
Although the sample population generally understood the concepts of interest on loans, risk and return and inflation, the calculation of interest and more difficult concepts such as time value of money proved more challenging to handle.
With regard to financial behaviour, a high proportion considered purchases carefully before they made them and had saved or invested in the past year, but only 8 per cent shopped around used independent information and advice to make financial product choices and just 38 per cent had a household budget.
With respect to attitudes, 39 per cent disagreed that money was there to be spent, 49 per cent did not agree that it was more satisfying to spend than save for the long term, and 61 per cent did not support the view that it was better to live for today and let tomorrow take care of itself.
The study found a positive relationship between financial knowledge and financial behaviour. Overall, in regard to financial knowledge, behaviour and attitude, less than 50 per cent, 60 per cent, and 67 per cent, respectively of respondents gained a high score.
Of interest is that no differences were detected between the genders in the components of financial literacy that were investigated, individuals between 30 and 59 had a higher score than younger and older respondents, and both education and income were positively associated with overall financial literacy scores.
According to the Jamaica Deposit Insurance Corporation, 35 per cent of adults do not save with or borrow from banks, 34 per cent do not own bank accounts, and only 4 per cent invest in the stock market.
Among Jamaicans, the low level of thrift and savings and high level of debt incurred through hire purchase, credit card use and payday arrangements, as well as heavy losses in unregulated financial schemes less than 10 years ago raise questions about the value of and the need for a greater level of financial literacy in Jamaica.
Annamaria Lusardi, in her paper 'Financial Literacy: An Essential Tool for Informed Consumer Choice?', spends some time in discussing whether financial literacy matters. Although her discussion relates to the United States, there are several points which reflect our own reality in Jamaica.
Lusardi notes that individuals are increasingly taking charge of their own financial security and are being confronted with ever more complex financial securities but that many are not well equipped to make sound saving decisions.
She concludes that financial literacy impacts decision-making and that behaviours such as failing to plan for retirement, even as there is a shift from defined benefit to defined contribution arrangements, lack of participation in the stock market and poor borrowing behaviour in an environment of easier access to credit can be linked to ignorance of basic financial concepts.
Lusardi also comments that it is vital to have some advanced financial literacy - understanding the relationship between risk and return, how bonds, stock and mutual funds work, and basic asset pricing - to be able to make savings and investment decisions competently.
She sees significance in financial literacy declining with age although there is the need for persons to continue making financial decisions until late into the life cycle.
In answering the specific question of whether financial literacy matters, Lusardi states that it matters for planning, for retirement, for example. Additionally, she wrote that advanced financial literacy is necessary for financial decision-making, citing research showing that financially sophisticated households are more likely to participate in the stock market.
And she also illustrates that the persons who are unable to calculate interest rates end up borrowing more and accumulating lower levels of wealth, and cites studies that show the persons who fail to refinance their mortgage in periods of falling interest rates are disproportionately those with lower levels of financial literacy.
Noting that financial literacy cannot be achieved in a few months or with small interventions such as a few seminars or one benefit fair, Lusardi raises the questions of who will pay for the mistakes of people with low literacy, and that if taxpayers are to do so, there is a case for regulation and the implementation of mandatory programmes.
The paper recommends, in light of the low level of financial literacy, that government and employers should devise and encourage programmes that simplify financial decision-making and provide sources of reliable financial advice.
Oran A. Hall, a member of the Caribbean Financial Planning Association and principal author of 'The Handbook of Personal Financial Planning', offers personal financial planning advice and counsel. firstname.lastname@example.org