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Financial education not helping consumers make better money moves

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Financial education isn't working right now. Please try again later.Even with new regulations put in place after the financial crisis, we still have a pretty caveat emptor (let the buyer beware) approach to finance in this country.

Americans are mostly free to take out an adjustable rate mortgage with a crappy rate that will leave them eating ramen every night, or invest all their retirement savings in high-risk foreign stocks if they want to, based on the premise that consumers themselves are the best judge of what financial products are right for them.

Financial education and efforts to increase financial literacy have been held up by many in the government and the press (myself included) as a way to limit the colossal damage people can inflict on themselves with bad financial products. But what if financial education, at least as we know it today, doesn’t actually work?

A massive study to be published in the journal Management Science seems to suggest exactly that. Researchers from Erasmus University in the Netherlands, the University of Colorado and the University of Virginia analyzed 201 previous studies on whether financial education led people to make better financial decisions down the line. They found that financial education did have a positive effect, but one so small it’s barely noticeable.

Let that sink in for a moment: All the financial literacy education out there, from high school programs on the local level to the 15 financial literacy programs run by the federal government, probably aren’t really doing anything.

Don’t get rid of financial education, fix it

So does that mean we should throw up our hands, shut down all the financial literacy programs out there and use the $30 million budgeted for financial literacy by the federal government on monster truck rallies and fireworks instead? Not at all, says Richard Netemeyer, Ralph A. Beeton professor of free enterprise and senior associate dean of UVA’s McIntire School of Commerce, and one of the authors of the study.

“We didn’t want to be misinterpreted (as saying), ‘Forget about financial literacy, forget about financial training’; not at all,” Netemeyer says. “We’re as much for financial training as anybody else who studies this topic.”

But the study results suggest we do need to take a look at how we’ve traditionally done financial education and make some major changes, Netemeyer says.

“Is there a more efficient way to deliver it such that it is going to have the desired effect on a financial behavior?” Netemeyer says. “Let’s look at something that may work a little bit better.”

One way to do that is concentrate more on putting financial knowledge in people’s hands “just in time” as they’re actually making a financial decision, Netemeyer says.

Most kinds of knowledge decay over time if they’re not used. For instance, giving high school students a bunch of financial education on mortgages, when kids probably aren’t going to be dealing with the prospect of buying a home for years, isn’t very useful.

Instead, it might be better to provide classes on the ins and outs of financial products “just in time,” for people who are right about to make a major financial decision such as how they’ll invest their retirement or what car to buy and how to finance it. For high schoolers, that might mean concentrating personal finance education on the likely payoff of different types of college topics and the ins and outs of student loans, Netemeyer says.

“If I lived in a state where my kids would be required to take a financial education course, I’d just as soon see at least half of the curriculum be around those topics,” he says.

Putting financial decisions on autopilot

Another way to help people make better decisions overall is to frame it so the choice that’s better for most people is the default. For example, it might make sense to automatically enroll people in a 401(k) at work so if they specifically don’t want to do that, they’ll have to opt out, Netemeyer says.

What do you think? Is financial education, as we know it, a good way to help people make better financial decisions? Or is knowing what you should do not quite enough?

(Photo: Steven Depolo)

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14 Responses to “Financial education not helping consumers make better money moves”

  1. dojo says:

    I have started paying more attention to my money and reading about how to save/make more 2-3 years ago. It helped me A LOT. I’m currently debt free, run a successful business and save money. I’d rather know more about this than nothing, so I’d say there’s a positive impact, too. Sure, you need discipline and consistency though, if you know the ‘drill’, but lack these two, you can have all the knowledge in the world and will still make huge mistakes.

    • Rob says:

      Where is financial literacy education to high school students? And what “15 financial literacy programs run by the federal government” are you referring to?

  2. Demi says:

    I agree with dojo on the point made: it boils down to discipline. This world gives us many freedoms and the freedom to damage one’s self is also included. And in trying to set up protections to keep one from damaging themselves you may end up kicking up some dust with those all about preserving freedoms. Its a quirky situation. Which is why some things need to be taught and some need to be learned. My parents taught all of us how to be thrifty when needed and how to enjoy our wealth responsibly. There will always be a rainy day so plan for it. I don’t expect the world to come running to me with help if I make a stupid financial mistake. It would be nice. But IMHO that is what lessons are for.

  3. Your final suggestion is the answer, in my opinion. Ever since reading Nudge, I’m convinced that choice architecture (e.g. – making sensible choices the default, limiting the number of choices to a manageable level, etc.) will have a much greater impact than efforts aimed at educating the individual. As Jason Hull might say, you can’t teach the Monkey Brain.

  4. Claes Bell says:

    dojo: Totally agree and actually one of the findings of the study I plan to write on later was that skills and habits (e.g. planning for the future) were more predictive of success/failure than knowledge
    Demi: well-said on all accounts.
    Done by Forty: I think you’re def. right in terms of effectiveness, but hard part is balancing that against freedom for those who don’t have a problem with money management, as Demi pointed out.

    • Completely agree on preserving freedoms. I am an advocate of the authors’ approach in Nudge: paternalistic libertarianism. Set up the default choices and limit the default choices to a reasonable number, but allow the individual to opt out of the default and to access all possible choices.

      Many 401(k)s are set up in this way now: you have a default of paying a certain percent in with a default increase of 1% a year. This gently nudges employees in the right direction. But an individual can opt out, save as much or little as he pleases, and most 401ks now allow for a brokerage options that gives consumers access to thousands of options.

  5. Rob says:

    As dojo indicates, if people don’t implement the knowledge, they will continue to make mistakes.

    Perfect example:
    I was watching Suze Orman recently. She had a single mother of two on who had been watching Suze’s show for 10 years. The woman was making $3,000/month, but spending $4,600 (despite the fact that she hadn’t paid her mortgage in 2 years). She was $100,000 underwater on her condo, had a $37,000 car loan, had maxed out her credit cards, and borrowed heavily from her retirement to satisfy her gambling habit (she lost $15,000 gambling the prior year).

    After Suze told her how bad of shape she was in and provided the steps she needed to take to get on the right track, the woman said she was worried that it would affect her ability to buy a house in 5 years.

    I’m glad Suze has more restraint than me. I would have screamed at her for that response.

  6. I grew up in a family where money wasn’t handled well. I never really had any education about it until I educated myself later, it was just in my personality. So I think that plays a role. And without the goals and plans to implement them, it doesn’t matter what education you have. It won’t do you any good.

  7. Claes Bell says:

    Hey Rob,

    Here’s the list of financial literacy programs as compiled by the GAO: http://www.gao.gov/assets/100/97337.pdf

    And here’s info on which states require financial literacy education for high schoolers: http://www.councilforeconed.org/wp/wp-content/uploads/2011/11/2011-Survey-of-the-States.pdf

  8. Claes Bell says:

    And that Orman anecdote is crazy … $3K per month to support a family of 3 isn’t a ton of money, but clearly there are some really unfortunate financial behaviors going on. And I agree knowledge isn’t always going to get it done.

    • Rob says:

      The thing I find crazy is that she managed to spend $4,600/month and wasn’t paying her mortgage or credit card bills. Had she been paying those expenses, her monthly outlays could have easily topped $7,000. And she didn’t say, but I doubt she is making payments on her $37,000 car loan either, which could push her monthly expenses over $8,000.

      And the truth is that she is currently only earning $2,000/month because she has to pay back $1,000/month to her retirement.

      I know that some people are delusional about their financial situation, but this story really drove that point home.

  9. fabclimber says:

    I wonder if anyone in Congress has taken any of the recommended courses.

  10. Claes Bell says:

    fabclimber: hahahaha … I’m sure some have, but definitely not all


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