April is Financial Literacy Month.
All month long, I have been trying to think of how to write a post that can express the depth of my conviction that the lack of financial knowledge is at the core of some of the biggest problems that we, as individuals (and as a nation) are facing.
There are so many areas in which we can see the enormous problems created by a lack of financial literacy that, frankly, I don't even know where to start. In fact, the Wall Street Journal just ran an article about college graduates who have little hope of ever being financially secure given their enormous levels of student loan debt. (Even President Obama isn't exempt: he admitted today that he paid off his student loans just 8 years ago.)
This is a big problem.
We know, of course, that retirement savings are woefully low and that credit card balances are frighteningly high for this general population.
This is another huge problem.
Making Poor Financial Decisions
The financial straits facing many Americans (while not entirely due to financial illiteracy) are certainly related to the way that we make financial decisions:
- The average household with credit card debt has a balance of $16,000.
- The personal savings rate (the fraction of after-tax income that is not consumed) is a mere 3.7%.
- Less than 20% of investors know how much they pay in mutual fund expenses.
- Many investors pay high fees for their mutual funds when they could own functionally identical fund for far less.
- 60% of households have savings and investments totaling less than $25,000 (this excludes the value of their primary residence and any traditional retirement plans--defined benefit--not 401(k) and related plans).
- Only 33% of workers (or their spouses) have any type of traditional pension from a current or previous employer (but 56% of workers expect to receive a traditional pension in retirement).
- 56% of workers have not even tried to calculate how much money they need to save for retirement.
- The average student loan debt for college students who took out loans to pay for their education, is $25,000 at graduation (and 2/3 of students take out loans).
This list goes on and on ... and each one of these facts is its own financial disaster in the making.
As a whole, these and other related statistics suggest that a vast number of Americans have made financial decisions that are ruining their hopes of a secure financial future, as well as shaping the ability of their children to build one of their own.
Now, it may be tempting to attribute financial problems to the bad economy and certainly the economy in recent years has certainly not helped. But, frankly, this is only part of the problem. Consumer spending, (driven by auto sales) has been rising faster than real income, while savings rates plummet.
The Housing Bubble: A Prime Example
The role of financial literacy is perhaps nowhere as well illustrated than in the growth of the housing bubble and its subsequent collapse that left 24% of homeowners owing more on their mortgages than what their houses are actually worth.
How did this happen?
People who did not understand the real risks involved with the housing market were more than willing to be sold mortgages that allowed them to take massively leveraged bets on housing--even as housing prices had risen far beyond any rationally-grounded values. (In fact, the news is still grim. Read the latest data released yesterday from the S&P/Case-Shiller Home Price Indices.)
So, whose fault was this?
Certainly there were unscrupulous mortgage practices, however, we live in a society that assumes that adults are competent to make binding financial commitments. And this is why financial literacy is so crucial.
We're Left with Only Three Choices
Going forward, it appears to me that we have three choices:
- Simply live with the status quo in which people are consistently making financial decisions that are harmful to them and to their families.
- Expand the regulatory reach of the government in order to protect people from making bad decisions.
- Make a real societal commitment to improving financial education.
The first of these options is simply unacceptable. That’s why the road ahead must include both improved regulatory oversight and a serious commitment to financial literacy in our society.
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