Global inflation has once again taken center stage for households and policymakers, stressing peoples' finances, undermining their savings patterns, and threatening long-term financial security. Simple measures around the world confirm strikingly low levels of financial literacy with consequences for how people manage their personal finances.
To investigate patterns of financial literacy which is defined as the knowledge of and the ability to use basic financial concepts in their everyday financial decision-making process. A group from the University of Pennsylvania created three simple questions as a baseline to attempt to get an indication of financial awareness. These questions were:
1) Suppose you had $100 in a savings account and the interest rate was 2% per year. After 5 years, how much should be in the account?
More than $102**
Less than $102
Exactly $102
2) Imagine that the interest rate on your saving 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 the account?
More than today
Less than today**
Exactly the same as today
3) True or False. Buying a single stock usually provides a safe return than a stock mutual fund.
True
False*
Despite the fact that these questions were intended to assess knowledge of the ABCs of personal finance, fewer than half of the respondents queried in this nationally representative survey in the US, got all three questions correct, even among older people who have made multiple financial decisions over their lifetimes.
Similar studies were done outside of the United States with Germany faring the best at 57% of respondents correctly answering all three basic questions, Netherlands scored 46%, US 35%, Italy 28%, Sweden, Japan and New Zealand at 27% and Russia at 3%.
Additionally, the fact that so many people lack financial knowledge not only limits their ability to use their resources to the fullest but also contributes to macroeconomic problems and financial instability. For example, people who do not understand inflation may do a poor job of budgeting to hedge against small shocks, much less against the massive economic turmoil generated by the recent pandemic. As with the population health, prevention is often better and less costly than the cure.
