US Financial Literacy: Distressing and Disempowering

Over the years, I've had disheartening conversations with a number of college students and recent graduates about their personal finances. The main problem isn't student loans. Instead, it's that they managed to run up an extraordinary amount of credit card debt while still a student, and sometimes also managed to borrow funds (or sign a lease) to have a car that was far more nice-looking than they needed. One student, a few years back, had received a check from his parents for next semester's tuition a couple of months in advance, and wanted my advice on how to make a big profits in the stock market in two months. Many more stories like these are probably lurking in the background of the statistics collected by the FINRA Investor Education Foundation in its triennial survey of 25,000 US adults. The results of this National Financial Capability Study have just been published in the report, Financial Capability in the United States 2016. 

The tail end of the survey has a six-question multiple choice financial literacy survey. You can take the quiz on-line here, if you prefer, but here are the questions and choices. I won't bother giving answers here, but I'll note that the percentage of Americans able to answer four of the first five questions correctly has fallen from 42% when these questions were asked in 2009 to 37% by 2015.

Suppose you had $100 in a savings account and the interest rate was 2% per year. After 5 years, how much do you think you would have in the account if you left the money to grow? 

• More than $102
• Exactly $102 
• Less than $102 
• Don’t know 
• Prefer not to say

Imagine that the interest rate on your savings account was 1% per year and inflation was 2% per year. After 1 year, how much would you be able to buy with the money in this account? 

• More than today
• Exactly the same
• Less than today 
• Don’t know 
• Prefer not to say

If interest rates rise, what will typically happen to bond prices?

• They will rise 
• They will fall
• They will stay the same
• There is no relationship between bond prices and the interest rate
• Don’t know
• Prefer not to say

Suppose you owe $1,000 on a loan and the interest rate you are charged is 20% per year compounded annually. If you didn’t pay anything off, at this interest rate, how many years would it take for the amount you owe to double? 

• Less than 2 years
• At least 2 years but less than 5 years
• At least 5 years but less than 10 years
• At least 10 years
• Don’t know
• Prefer not to say 

A 15-year mortgage typically requires higher monthly payments than a 30-year mortgage, but the total interest paid over the life of the loan will be less. 

• True
• False
• Don’t know 
• Prefer not to say 

Buying a single company’s stock usually provides a safer return than a stock mutual fund.

• True 
• False
• Don’t know
• Prefer not to say

I'll readily confess that if I were drawing up a short financial literacy test, I might use some different questions. It's not obvious to me that knowing about interest rates and bond prices is important for the average person, for example. But that said, my guess is that any plausible set of questions you draw up will give results similar to these.

But more distressing than answers to quiz questions are the answers that people give to questions about their own personal financial situation. For example:

Only 39% of those surveyed say that they have tried to figure out their retirement saving needs. Only 30% report having some form of non-retirement investments. Even in 2015, 9% of the survey respondents say that what they owe on their home mortgage is more than the current value of the home. When it comes to credit cards, 77% have at least one, 26% have four or more, and only about half pay their bill in full every month. Among those with a student loan, 28% report that did not complete the education for which the loan was taken out. About one-fourth of those who answered the survey used "non-bank borrowing" in 2015 like a pawn shop, a payday loan, a rent-to-own store, or an auto title loan. Forty percent of respondents say they have too much debt right now.

The good news, I suppose, is that at least we feel good about our financial literacy. For example, 60% of respondents believe they have an "above average" credit score and 41% believe their credit score is "very good."  When people were asked assess their own financial knowledge on a scale from 1-7, 67% graded themselves as 5 or higher in 2009, which rose to 76% by 2015.

For perspective, here's a Survey of the States 2016 from the Council for Economic Education on the subject of high school teaching of personal finance. As you can see, 45 states include personal finance in their "standards," which sounds pretty good until you look at the other lines. It falls to 37 states that actually require the standard to be implemented, 22 states that require a personal finance course to be offered, and 7 states that have standardized testing of personal finance concepts.

Here's an earlier post on "Financial Literacy" (March 17, 2014), which uses a three-question version of the above survey and offers some additional thoughts.