1 FINANCIAL LITERACY: PAST ISSUES AND FUTURE TRENDS, A REVIEW Carlos Pinho Universidade de Aveiro, GOVCOPP Mara Madaleno Universidade de Aveiro, GOVCOPP Presentation prepared for: Elisabete Vieira ISCA-Universidade de Aveiro, GOVCOPP 4ª Conferência Internacional de educação Financeira Universidade de Aveiro 25 e 26 outubrode 2013
2 Financial Literacy: Definitions Set of skills, knowledge and attitudes Allowing individuals to make informed and effective financial decisions Set of attitudes relevant for financial decision-making, behavior and knowledge Application of knowledge, understandings, skills and values in financial contexts Related decisions with impact on self, others, the community and the environment A skill for life with significant benefits independently of age or income(taylor et al., 2009) Decisions include when to: Save Spend Managing a budget Choose the right financial products Other decisions include: Finance children s education Secure financial wellbeing Retirement planning Meet financial goals Essential for social inclusion(lusardi, 2011)
3 Benefitsoffinancial literacy Better financial allocations Increased control over income Improves economic performance Contribution to broader economic growth and development(kefela, 2010) Economic health of society: Improved household savings performance Reduced dependence on government allowances Lower levels of problematic debt
4 MCEETYA (2003) - Ministerial CouncilonEducation, Employment, Training and Youth Affairs Improved financial literacy can increase economic participation, drive competition and marketefficiencyin thefinancial servicessector and potentially reduce regulatory intervention empowers investors to make informed financial consumer decisions and to manage effectively their personal financial resources
5 OECD (2006) recommends Education(financial knowledge has to be taught) Skills and attitudes have to be supported from education to lifelong learning Studiesexploringcountries launchedinitiativesto promotefinancial literacyamongpopulation(fox et al., 2004; Habschicket al., 2007; Sheraddenet al., 2007; Tomásskováet al., 2011; Atkinson and Messy, 2011; Lusardi and Mitchell, 2011).
6 Financial LiteracyLiteraturePerspectives Measuring levels of financial literacy Impacts of financial literacy on financial behaviors and attitudes(stock returns; investments) Influential characteristics on financial literacy (education, income, gender and age) Evaluation of curriculum effectiveness in schools or educational programs Household Finance Financial literacy around the world Existent Databases Theportuguese context(mendes and Abreu, 2006; BES, 2006; CMVM, 2009; Bancode Portugal, 2010; Henriques, 2010)
7 Financial literacyandhousehold finance Campbell(2006): Household finance asks how households use financial instruments to attain their objectives given that households must plan over long but finite horizons Understanding how financial literacy affects investment decision, which have major implications for improving social welfare and avoiding the harmful consequences of misuse of financial instruments => Goal: significantly enhance social welfare Conclusions: Although some households invest effectively, others take investment decisions that are not in accordance with standard financial theory, make investment mistakes (Campbell, 2006; Calvetet al., 2007), namely in what concerns the under-diversification, inertia in risk taking and the disposition effect in direct stockholding (Calvetet al., 2009a).
8 Financial LiteracyaroundtheWorld Habschicket al. (2007) report presents a summary of 180 financial literacy schemes in the 27 EU Member States. Main findings: The distribution of financial literacy schemes varies significantly throughout the EU. The core schemes were found in the UK, Germany and Austria; The major targets are children and young adults; About 25% of the schemes are specifically oriented to lowincome or low-education groups; The most used channel used is the internet; The majority of the schemes resort to intermediaries services; Frequently, the schemes cover several content areas of financial services and basic money issues and provide information about bank accounts and basic money issues; Some of the schemes are exclusive, being designed for specific target groups or purposes. O'Connell (2006) makes a review of what is being done around the world to measure the effectiveness of many different types of financial education. Fox et al. (2004) study the effectiveness of financial education programs that include activities for workers, students and the population as a whole.
9 Financial Literacyaroundtheworld Atkinson and Messy, 2011; Lusardiand Mitchell, 2011a; Xuand Zia, 2012 Conclusions: Financial illiteracy is widespread even when financial markets are well developed There are remarkable differences across countries Common patterns: women are less financially literate than men and more educated people are more informed. Ethnic, racial and regional differences have a significant impact in financial knowledge. Young people becomes a more attractive consumer segment in the economy worldwide (Altintas, 2011). According to Chen and Volpe (1998), young adults need to have the basic knowledge and skills to make important personal financial decisions.
10 Education, Income, GenderandAge Gender does not influence financial knowledge(atkinson and Messy, 2011; Wagland and Taylor, 2009; Bucher- Koenen and Lusardi, 2011). Genderinflencesfinancial knowledge(bordenetal., 2008; male students had more financial knowledge than female students)(chen and Volpe, 2002; Al-Tamimiand Kalli, 2009; Fornero and Monticone, 2011; Jappelli and Padula, 2013) Almenbergand Säve-Söderbergh(2011) show that financial literacy levels in Sweden are lower among women, older people, and those with low earnings and education. For the United States, Lusardiand Mitchell (2011b) find that financial knowledge is especially low among the young, women, and the less-educated.
11 Education, Income, GenderandAge The lack of financial capability can impact not only young people, but also family life (Jorgensen and Savla, 2010). Consistent with Allen et al. (2007) results, Jorgensen and Savlafind that both explicit and implicit reported learning increased students financial attitudes and behaviors. With Turkish university students Altintas(2011)shows an inadequate knowledge on personal finance and financial management, also affected by class rank, age, family s income level, and students discussion potential with their parents about financial subjects. Research undertaken worldwide, particularly in the US and in the UK has reached to the similar conclusion that young people report poor financial literacy skills (Hoare, 2003).
12 Education, Income, GenderandAge Atkinson et al. (2007) conduct a survey directed to about 5,000 UK adults, from 2006 to 2007, developing an index for financial literacy and found that, globally, lower income respondents fell in the middle or bottom levels of financial literacy. Buckland (2010) interviews and surveys a group of low-income Canadian adults, showing evidence of financial illiteracy among low-income respondents. Overall, empirical studies find evidence that financial literacy is lower among young people, women, and people in lower income and education class ranks (Chen and Volpe, 1998, 2002; Atkinson et al., 2007; Al-Tamimiand Kalli, 2009; Buckland, 2010; Bank of Portugal, 2010; Almenberg and Säve- Söderbergh, 2011; Altintas, 2011; Bucher-Koenenand Lusardi, 2011; Forneroand Monticone, 2011; Lusardiand Mitchell, 2011b; Jappelliand Padula, 2013).
13 Education, Income, GenderandAge There is a systematic lack of personal finance education in the education system. Jorgensen and Savla(2010) Willis (2008) contends that the costs of financial education programs outweigh potential benefits. Other studies support a relationship between financial education, financial literacy and positive financial outcomes (Fox et al., 2005; Lusardi 2003). Conclusion: not all financial education programs are equally effective; factors other than financial literacy contribute to financial distress But. Literature on the cause and effect relationship between financial education and financial literacy is particularly limited (Huston, 2010). Oehlerand Werner (2008) carried out an evaluation in England and in Germany, concluding that financial education in the form of advice and training can be effective in the sense of inducing behavioral change.
14 Education, Income, GenderandAge Chen and Volpe (1998) suggest that students in lower class ranks, with little work experience and female present lower levels of financial knowledge, limiting their ability to make informed financial decisions. Sheraddenet al. (2007) examined a college saving program for public elementary school children, called I can save, to conclude that teachers, children, and their families learned a lot with that saving program. Tomásskováet al. (2011) suggests the introduction of a financial literacy subject on students curricula. Jorgensen and Savla(2010) study the parental influence on the financial literacy of young adults, based on a sample consisting of 420 college students, finding no effect on financial knowledge, a direct and significant influence on financial attitude, and an indirect and moderately significant influence on financial behavior (in accordance to Clarke et al. (2005), concluding that many parents do not teach their children financial knowledge.
15 Education, Income, GenderandAge In the European context, Almenberg and Säve- Söderbergh(2011) empirical analysis shows that financial literacy levels in Sweden are lower among women, older people, and those with low earnings and education. Bucher-Koenenand Lusardi(2011) demonstrate that knowledge of basic financial concepts is missing among women, the less educated, and those living in East Germany. => Regional differences! Forneroand Monticone(2011) find that among Italian males, the more educated individuals and the residents in the Centre-North possess higher literacy. Wolfe-Hayes (2010) describes the effectiveness of sample financial education programs for adults
16 Financial literacyandinvestments Van Rooijiet al. (2012): significant relationship between financial literacy and wealth accumulation, which is likely due to the fact that financial knowledge increases the probability of investing in the stock market, allowing investors to take advantage of the equity premium and to the fact that financial literacy is positively related to retirement planning (Lusardiand Mitchell, 2011b), which improves wealth.financial literacy lowers the costs of collecting and processing information, reducing the planning costs. Jappelli and Padula(2013) present an intertemporal consumption model of consumer investment in financial literacy, finding a strong effect of financial literacy on wealth accumulation and national saving. Stockholding increases with age (e.g., Wang and Hanna, 1997); contrary to standard finance.
17 Financial literacyandinvestments Van Rooijet al. (2011b) analyze the relationship between households financial literacy and stock market participation for the Netherlands, finding that those with low financial literacy are much less likely to invest and diversify in the stock market. Calvetet al. (2007) report that low-education and low-wealth investors are likely to hold poorly diversified portfolios, which is consistent with the results of Christeliset al. (2010). Bucher-Koenenand Lusardi(2011) and Van Rooijet al. (2011a) conclude that there is a positive and strong relationship between financial knowledge and retirement planning, in the context of Germany and Netherlands, respectively. (Christeliset al., 2010; Bucher-Koenenand Lusardi, 2011; Lusardiet al., 2011a, 2011b; Poterbaet al., 2013). In contrast, Almenbergand Säve-Söderbergh(2011), not controlling for demographic variables, and Crossanet al. (2011) found that financial literacy is not related with retirement planning, respectively, in Sweden and New Zealand. Planning has also been associated with higher wealth even among better educated people (Ameriks et al., 2003).
18 Financial literacyandinvestments Financial literacy and retirement planning (Almenbergand Säve-Söderbergh, 2011; Bucher-Koenenand Lusardi, 2011; Crossanet al., 2011; Forneroand Monticone, 2011; Lusardiand Mitchell, 2011a, 2011b; Van Rooijet al., 2011a) Relationship between financial literacy and investment decisions (e.g., Al-Tamimiand Kalli, 2009; Van Rooijet al., 2011b). Overall, empirical results show that households with higher financial literacy are more likely to invest and diversify in the stock market because they better understand the principle of risk diversification (Calvetet al., 2007; Goetzmannand Kumar, 2008; Guiso and Jappelli; 2008; Christelis et al., 2010; Van Rooij et al., 2011b, 2012; Arrondelet al., 2012). Recent studies find that the lower the level of financial sophistication, the poorer the risk diversification, the higher the inefficient portfolio allocations and the lower the wealth accumulation(calvetet al., 2007, 2009a; Hackethalet al., 2012; Van Rooij et al., 2011b).
19 Financial literacyandinvestments People with higher financial literacy are more likely to invest in risky assets (Campbell, 2006; Calvetet al., 2009b; Jappelli and Padula, 2013) Higher financial literacy households invest in lower cost funds (Hastings et al., 2010; Hastings and Mitchell, 2011) Individuals with poor financial literacy borrow more on consumer credit and are more likely to lack confidence when interpreting credit terms (Disney and Gathergood, 2013). Stangoand Zinman(2009) find that more-biased households borrow more, save less, favor shorter maturities, and benefit more from financial advice.
20 Financial literacyandinvestments Some studies focus on the investment mistakes of households. Campbell (2006) argue that some households make serious investment mistakes, namely nonparticipation in risky asset markets, underdiversification of risky portfolios, and failure to exercise options to refinance mortgages, which may inhibit financial innovation. The author suggests that poorer and less educated households are more likely to make mistakesthan wealthier and better educated households. In the same line of research, Calvetet al. (2009a) find that Swedish households with low financial literacy are more likely to make financial mistakes and Agarwalet al. (2009) conclude that these mistakes are most prevalent among the young and the old households. Guisoand Jappelli(2008) focus their study on poor financial literacy as one potential factor explaining lack of portfolio diversification. Disney and Gathergood(2013): survey data from a sample of UK households, analyzing the relationship between financial literacy and consumer credit portfolios. Results show that individuals with poor financial literacy borrow more on consumer credit and are more likely to lack confidence when interpreting credit terms than those with higher literacy.
21 Resultsandcommonpatterns These studies highlight some common patterns in the determinants and the effects of financial literacy and they indicate that financial literacy: - is lower among younger and older individuals. - is lower among female individuals -is usually higher for self-employed and individuals working in business related sectors - is higher for higher income individuals -is higher for individuals that are good in math and in numeracy -increases with education (schooling) but the actual relationship can be complex - affects positively the probability to plan for retirement -affects positively, other things being equal, the accumulation of wealth -is positively correlated with the degree of portfolio diversification -is positively correlated with the participation to the stock market.
22 Some existentdatabases Survey of Health, Ageing, Retirement in Europe (SHARE) that covers a sample of individuals with age 50 and older in 11 European countries SHARELIFE, a retrospective survey of the same individuals (not including Portugal); actually in its fourth wave including 19 European countries but only considers data related to health, psychology, economic situation and social conditions of the population UnicreditCustomers Survey (Guisoand Jappelli, 2008; Italy) Several conducted surveys through countries or specific groups Dimmockand Kouwenberg(2010) use survey data and a dataset from The Netherlands containing data on household portfolios Banco Espírito Santo - BES, 2006 results Portuguese Committee on Securities Market -CMVM(2009) conduct a survey of about 15,000 families residing in Portugal, between January and April, concluding that financial knowledge of Portuguese residents is quite low and that families have a low participation in the securities market. Bancode Portugal (2010; Bank of Portugal) survey results show that Portuguese people have positive attitudes, which do not always correspond to an appropriate financial behavior.
23 Remainingquestions Big challenge: measurement of household characteristics Global financial crisis and the increased complexity of financial productsandservices(globalization) intensifies the asymmetry of information between financial institutions and costumers, which justifies the need to acquire competences concerning financial issues, as well as be informed about the increasing complexity and diversity of financial products. How to promote citizens savings and avoid families over-indebtedness, especially in Portugal? More research on the effect of financial literacy on household investment decision and wealth is needed Study the relationship between wealth accumulation and financial literacy is still needed
24 Remainingquestions Need for more cross-country evidence(see: Bumcrot et al., 2011) Detailed analysis of financial education programs which went well can give insigths for others implementation According to Campbell (2006, p. 1576), an important remaining question is to what extent the results for Sweden describe household behavior in other countries. More research relating financial literacy and public policy is needed (Altman, 2012) Stronger databases able to make inferences about financial literacy and investment attitudes as Becchettiet al. (2013); Disney and Gathergood(2013); Fort et al., (2013) Financial literacy and information flows (Bönteand Filipiak, 2012 is a good principle or Cooney and Hiris, 2013) Financial education and the debt behavior (see: Brown et al., 2013 or Calcagno and Brancati, 2013 or Gathergood, 2012) Financial literacy and company valuation as measured by stock returns
25 Remainingquestions Howare consumptionhabits, behaviors, use of credit cards, insurance and retirement planning related to financial literacy? What parental factors can be associated with financial capabilities and financial literacy? Whatistherole ofparentsin financial education? What factors prevent parent s from teaching their children s? How can we solve this issue? Should we teach parent s or kidsfirst? Underwhichcorrectpolicies?