Ten years ago, I volunteered to teach financial literacy skills to a group of homeless women. All of us volunteers, mostly working in finance, came in excited to teach the women about the wonders of compound interest and the benefits of saving. Our knowledge was totally useless to them. The women led complex financial lives, mostly negotiating intricate rules and charges they faced from government benefits. They could understand why compound interest was great, but long-term saving was not a priority—or even possible—for them.
Based on this experience, you could conclude financial literacy programs are a waste of time. In fact, Philip Fernbach, a professor of marketing and co-director of the Center for Research on Consumer Financial Decision-Making at the University of Colorado’s business school, recently made this argument (and he’s not alone). And, indeed, the women did not take my advice.
Fernbach says financial literacy programs don’t work because the human mind struggles to retain abstract financial concepts. For that reason, we can forget about regular people ever understanding complex things like compound interest or the benefits of diversification.
Fernbach argues that because we can never teach people to make good financial decisions for themselves, we need more government or technological interventions. That implies that most people should rely on an elite minority to make decisions for them. But maybe it just depends on how financial literacy is taught.
A survey of studies by economists Olivia Mitchell and Annamaria Lusardi found more optimistic results. They found that people achieve different levels of financial literacy at various points in their lives. The young and old know less than middle-aged people, who know the most. This suggests, above all, that the mind can process information about finance.
What’s more, men show higher levels of literacy than women, at all ages, in a dozen different countries. Ethnic minorities also had lower rates of financial literacy than whites. It is hard to square this with the argument most people can’t learn finance, unless you believe there is something inherently deficient in women and minorities that prevents them from absorbing financial concepts.
Mitchell and Lusardi speculate that these differences are explained by how different groups acquire financial education. This suggests that financial education not only works, but it is important to make sure people have access to it. They cite evidence that higher levels of financial literacy correspond with better financial decision-making, and training appears to be the cause (pdf).
Of course, not all training is equal. The evidence suggests if you take people with no knowledge and give them a few classes or the occasional seminar, there will not be a big change in behavior. There is also evidence that a one-size-fits all approach won’t work. For example, gender differences in literacy suggest that there is more than one good way to teach financial literacy.
Or, as my experience shows, the most effective program is tailored specifically to the financial needs of the people it is is intended to serve. I think the women in my class learned things that helped them, and probably changed their behavior as a result. However, any worthwhile knowledge did not come from me, but from one of the students who had the relevant skills and experience, and shared it with her fellow classmates.