For those trained in classical economics, with its view of rational economic man, the work of researchers in behavioural finance has been an enriching revelation. For practitioners and policy-makers in financial services, the work has created a new window on the very human reality of their fields, with important implications for better design of policies and programmes. This book is a valuable and diverse compendium of research in the field.
The book contends that the levels of financial literacy are very low across large components of communities across the globe. With the increasing emphasis on individual responsibility for retirement planning in many countries and the increasing complexity of financial products, low literacy leads to less than optimal outcomes. People make ‘pecuniary mistakes,’ such as investing too little for retirement, selecting expensive sources of credit, investing in assets that are too risky or too conservative, etc. The editors argue ‘that lack of literacy is critical because it has important consequences for lifetime well-being.’ It is incumbent on policy-makers and practitioners to have a good understanding of the human factors making success in this environment so challenging.
The book presents work by some 32 researchers in 15 papers and draws on hundreds of articles in the field. The first section covers research on the state of financial literacy and financial decision-making. The papers contain a rich set of survey data, using broadly similar approaches to defining literacy, and demonstrate that financial literacy is indeed at very low levels and incompatible with much policy design and complexity of product offers. The papers also identify characteristics of population groups most likely to have low literacy and be most vulnerable to suboptimal choice as a result.
What is the connection between financial literacy and financial behaviour? Lusardi and Mitchell show that consumers with better financial knowledge are more likely to plan, to try to succeed in planning, and to use more complex investment assets. They conclude this relationship is causal – from knowledge to better planning. Joanne Yoong concludes stock market participation is negatively impacted by financial illiteracy, ‘even for people whose wealth, education and financial literacy are high relative to the general population.’
The second section covers interventions to improve financial literacy, seeking to discover and understand what works and what does not. Much of this research has been conducted in the area of choice in defined contribution retirement plans, where a serious and challenging long-term responsibility has been placed on the shoulders of individual participants.
A study of choice among Chilean retirement plan members (Hastings, Mitchell and Chyn) shows that individuals with lower levels of education, income and financial literacy depend more on employers, co-workers and friends than on product design features, such as costs. To better shape the environment in which participants make retirement choices, careful attention should be paid to national policy and individual plan design as choice overload, and ‘significant cognitive costs associated with greater choice and autonomy,’ can lead to inefficient decision-making. And if literacy is related to lower education, income and wealth, choice could actually increase socio-economic disparities.
Researching the ‘relatively understudied’ area of retirement plan decumulation, Agnew and Szykman experiment with a ‘retirement game’ featuring a choice of annuity or lump sum. The experiment shows that levels of financial literacy, feelings of cognitive and emotional overload related to choice impact decisions made on this vital question. Lower financial literacy correlates positively with more cognitive and emotional overload. The authors conclude that plan communicators must be aware of this and develop communications materials appropriately. Framing choice in the simplest fashion will not only decrease overload but also increase individuals’ feeling of confidence and satisfaction with the plan.
The book's third section addresses how to influence the environment for financial literacy. Many varied efforts to improve financial literacy have been tried in various countries and there is a growing literature assessing their effectiveness. Based on the literature survey by Argawal et al., it is fair to say that results of research on this topic are mixed. ‘In some cases, financial education appears to improve financial literacy and behaviour, and is most effective for those who have the least financial knowledge, income and savings. However, it is not clear that effective programs improve behaviour through increased literacy, whether programs are cost-effective, or which types of programs are most effective.’
One of the most ambitious national programmes for improving financial literacy has been New Zealand's, now in place for a decade. Crossan presents an overview of the approach and early results of that comprehensive plan. While the piece reveals success in reaching the population and having some impact on financial literacy, it also suggests both the scope of the challenge and the long-term nature of the endeavour.
In the following chapter, Holzmann addresses the importance of financial literacy and education to low and middle-income countries and the need to tailor such programmes to unique needs. He also importantly broadens the discussion from financial literacy and education to ‘financial capability’ – meaning the demonstration of sensible financial behaviours, considering the spectrum from knowledge to skills to attitudes and ultimately to behaviours.
In sum, Financial Literacy offers a comprehensive journey across the current state of understanding of financial education and its impact on financial behaviours. It provides a useful survey of the field and will give any financial practitioner or policy-maker reasons and methods to think about the human consequences of their designs and actions.
Financial Literacy shows that academics have made substantial progress and has begun to forge strong linkages into the practitioner community. However, the body of work appears somewhat piecemeal and it is quite clear that the field is still in its early days with much more to contribute. Over time, a more comprehensive understanding will emerge linking the apparent ‘drivers’ of socio-economic context, industry/policy context, psychology, neuroscience and economic incentives to the ‘outcomes’ of financial literacy, skills, attitudes and behaviours. Certainly, with the vast amount of researchable data held by financial institutions, and strong interest among practitioners and policy-makers in actionable results, there is plenty of scope for academics to build our understanding in this vital field.
