BRB Bottomline: Amidst a financial literacy crisis, unprecedented in scope and scale, where millions of Americans worry and struggle to make ends meet, why do we not mention financial literacy more? What is the cost of this epidemic in financial acumen and what are the steps we can take to rectify it?
For many of us, at the precipitous age between sheltered adolescence and mortifying adulthood, the very thought of managing our own finances is enough to induce panic-stricken vomiting and invites our basest tendencies to curl into the fetal position when under even the slightest duress. However, money really can be that terrifying—although it shouldn’t—and there truly is an epidemic of missing financial acumen in our society that does warrant this response.
The State of Financial Literacy
We see the epidemic in the ballooning student debt that was $600 billion in 2006 and is nearly $1.6 trillion today. We see it in harrowing statistics such as how one-third of Americans have $0 saved for retirement or how nearly 40% of Americans carry credit card debt—with the average balance being $16,048. And, according to an independent report by Forbes, the average cost of a four-year degree has doubled to nearly $105,000 over the last two decades, while real median wages have only risen a modest $5,000. While the cost of an education is increasing at astronomical rates, it seems the financial education of Americans isn’t matching the same upward trends.
And specifically for millennials research by the National Endowment for Financial Education conducted by GW University found that 69% of millennials awarded themselves a high self-assessment of financial knowledge, while only 23% showed basic financial literacy, and only 7% demonstrated high financial capability. Even having a college-backed education is associated with higher levels of debt across all sources of long-term debt (student loans, home mortgage, auto loan).
This disparity in perceived financial knowledge and actual financial knowledge can have immense and lasting repercussions. It’s one thing to not know a fact, but to believe that one knows, when in fact they don’t, will only work to exacerbate this endogenous and persistent problem.
Even basic financial literacy can have significant effects. According to a 2014 study by Lusardi and Mitchell published in the Journal of Economic Literature, more financially-literate individuals are more likely to plan for retirement, invest in stocks, and make better refinancing decisions. These micro decisions—made daily and frequently—can have lasting long-term benefits. Another paper by Lusardi and Bassa Scheresberg found that financial illiteracy, especially among young adults aged 25-34, were more likely to engage with high-cost borrowing instruments such as payday loans, pawn shops, auto title loans, refund anticipation loans, and rent-to-own shops. These financial decisions, large and small, impact the wealth accumulation of individuals over a lifetime and contribute to generational cycles of poverty and social stratification.
But how do college students fare?
UC Berkeley students, in a nation-wide Study on Collegiate Financial Wellness conducted by the Ohio State University, reported very similar answers to their peers at 90 other institutions. To the statement, “I feel stressed about my personal finances in general,” 67% of students at four-year public universities (64.9% at UC Berkeley) agreed. On answering questions regarding financial knowledge, students at four-year public universities scored on average 3.38 out of 6 points, while the average UC Berkeley student scored 3.4 out of 6 points. The financial stress and crisis of students on our campus is a similar paradigm for students all over the country.
Students reported a significant amount of financial stress were found to have lower academic performance while retaining a higher amount of debt, than those who did not hold this belief. College students with credit card debt of at least a $1000 were at a higher connection to insufficient physical activity and binge drinking, among other unhealthy habits. And 78% of students who had attempted suicide cited financial stress as a “primary reason” for their suicidal ideation.
And there are so many other metrics we can’t measure: We can’t see the effect of this epidemic on the number of children who miss meals at night because their families struggle to make rent and buy the groceries, or on the loss of potential contributions by brilliant students who drop out because they can’t afford the exorbitant cost of their education, or the number of missed workdays because a family can’t afford to see a doctor or keep affordable health insurance.
We often talk about social justice and inequality as rallying points for feel-good campaigns regarding systemic change. Lusardi and Mitchell, in their paper titled “Optimal Financial Knowledge and Wealth Inequality,” posit that financial literacy should be taught as something akin to human capital investment. (The idea that investing in people can increase productivity, and, in turn, profitability.) Their statistical analysis and estimates argue that over half of wealth inequality can be attributed to financial knowledge and the lack thereof.
Minorities and low-income households have less access to financial resources that only exacerbate the financial problems such demographics face. Students without savings accounts are less likely to go to college, and students with higher debt are more likely to drop out, further impacting their future earning potential. If we want to improve the lives of low-income and marginalized communities, then part of the answer exists within the discourse of financial education.
The Changing Landscape
The nature of our relationship with money has changed. Most people don’t carry a significant amount of cash on their person, instead opting for forms of virtual money and lines of credit. To be unable to see the transaction taking place before you—the physical exchange of money from your person to another—makes it that much easier to overspend and mismanage. In our modern-day society, with technology and innovation connecting us and our bank accounts at every turn—misleading ads and offerings of “best refinancing loan rates,” “cash advances” or “0% intro APR credit cards”—more than ever are the gaps in our financial acumen becoming dangerous blind spots with potentially life-changing ramifications.
As employer-provided direct benefit (pension) plans become increasingly rare in lieu of direct compensation (401k) plans, the burden of saving for one’s retirement falls on the financial acumen of the employee. This means that familiarity with financial instruments and long-term saving is crucial to one’s future. The individual must have the financial acumen to be able to save and contribute to their retirement fund while they are young, to reap the rewards of compounding interest.
As the next generation confronts ever more sophisticated financial instruments, it’s critical that financial education keep up.
However, the trends portend a different reality. In the United States, according to a 2018 survey by the Council for Economic Education, only 17 states have some form of personal finance requirement for high school graduation, and no new states have added such a requirement since 2016. Similarly, only 22 states require high schoolers to take an economics course prior to graduation. As clearly evidenced by the literature, financial literacy is crucial to the development and success of our youth, and of society. Yet, the workings of money elude the young American, and only later does it rear its unfamiliar, foreign head, and strike the hand originally meant to wield it.
If our education system is intended to prepare our youth to face the real world—to achieve success and live better lives than their predecessors—then why do we not emphasize the importance of their financial literacy?
Many of the financial literacy programs that exist cater to higher education students and young adults, presumably because this group faces the struggle of poor financial literacy most intimately and abruptly as they first enter the workforce or pay for exorbitant education costs; however, these programs are often reactive, rather than proactive. Financial literacy should be encouraged at the K-12 level to cement positive feedback loops of financial health.
At the state level, 40 states have financial literacy concepts embedded in their states’ curriculum, but, as mentioned above, only 17 states have graduation requirements for financial literacy. According to data by the National Conference of State Legislatures, 28 states and Puerto Rico pitched financial literacy legislation in the 2018 session, with 17 states enacting and adopting resolutions. While these numbers may seem encouraging, this is down from 2017 where 36 states had pending financial literacy legislation and 20 states enacted legislation or resolutions. More states should establish a discrete financial literacy requirement as it drives home the point that financial health is a uniquely important skill to learn.
Teachers, in order to educate students, need to be trained on financial topics and provided the resources necessary to teach these topics. A study of over 1200 K-12 teachers found that 89% believed that students should be required to take a financial literacy course to graduate high school, while less than 20% felt prepared or competent to teach such topics. Only 24 states provide tailored educational materials or resources designed to meet the states’ standards, as stated by an independent report conducted by Brookings.
A study from Montana University found that students from states with high school financial literacy requirements are more likely to apply for aid and receive more federal student loans while having less credit card debt and private loans. And these same students were linked to having higher credit scores after college, likely a consequence of their credit card and debt habits.
While much research has yet to be done regarding the most effective way to teach financial literacy, there are some common best practices. Financial literacy courses or curriculums need some sort of evaluative measure, whether it be a test or survey that compares pre-learning and post-learning levels of understanding. On one level this promotes accountability, but it also encourages active participation. Since financial literacy is so nuanced and diverse, learning through individual activities, field trips, and evaluative measures create interesting and engaging programs for children of all ages.
Take Home Points
Mitchell and Lusardi, in the conclusion of their seminal paper on the Economic Importance of Financial Literacy, wrote, “While the costs of raising financial literacy are likely to be substantial, so too are the costs of being liquidity-constrained, overindebted, and poor.”
This fight isn’t easy nor is it cheap. We must encourage lawmakers, both state-level and national, to prioritize financial literacy, support nonprofits and organizations working to rectify the disparity in financial knowledge, and empower schools and educators to teach their communities. There is much work and research to be done to improve the state of financial literacy in our nation and the world, but the cost of not doing so would be severe and lasting.