Is Financial Education Worth the Cost?

A new paper suggests that regulation might be more efficient than investing in financial literacy.

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Despite the appeal of financial education—after all, who doesn’t want high schoolers to learn about compound interest and budgeting?—the impact of such courses has long been debated. In fact, some research suggests that personal-finance education in high school does little or nothing to improve later financial choices.

That has led some financial experts to discount the role of financial education altogether, and instead urge public policies that regulate the financial services industry and guide people to better financial choices. At the same time, school districts continue to roll out new financial education programs, based on the potentially faulty assumption that doing so will help students manage their money in the long run.

A new paper from the National Bureau of Economic Research, “Financial Literacy, Financial Education, and Economic Outcomes,” wades through the multiple studies on the impact of financial literacy and concludes that there might be more efficient ways to help people make smarter money decisions.

While research has repeatedly confirmed that many Americans are unable to answer basic financial questions about compound interest, real rates of return, and risk diversification, the findings on how best to fix this dearth of knowledge have been more mixed. Showing that financial education actually causes better financial choices is difficult to do.

“The evidence is more limited and not as encouraging as one might expect,” the paper’s authors, Justine Hastings, Brigitte Madrian, and William Skimmyhorn, point out. Indeed, some studies have found no relationship between high school financial education courses and students’ financial literacy.

Those inconclusive findings lead the authors to suggest that the government might want to focus on methods other than financial education as a means of helping consumers make better financial choices. “While the logical public policy response to many observers is to increase public support for financial education, this option may not be an efficient use of public resources even if it will likely do no harm,” the authors conclude.

Other, potentially more efficient options include public policies that “nudge” people to make smarter choices. In their book Nudge: Improving Decisions About Health, Wealth, and Happiness, economics professor Richard Thaler and law professor Cass Sunstein argue for this approach, pointing out that automatic enrollment in retirement savings plans drastically increases participation rates.

Helpful public policies also include easier-to-understand disclosures on financial services products, simplified fee structures, incentives that inspire consumer action, and stricter regulation of the financial services industry.

Still, interest in financial literacy education remains high, especially in the wake of a recession that was caused at least in part by the subprime mortgage crisis. Thousands of consumers signed up for mortgages they could not afford and did not fully understand. Americans also continue to be plagued by low retirement-savings rates, poor investment choices, and high levels of debt.

The authors cite other signs of poor economic decision-making, as well: Only a small portion of employees who are eligible for employer matches on retirement savings take advantage of them, and consumers often select high-fee funds, even when given the option to select lower-cost ones.

People also fail to balance their portfolios in a way that makes sense for their age, buy pricey whole life insurance (instead of term life insurance), and rely on high-interest rate loans, even when they have other options. (Interestingly, research has found that financial mistakes happen most among young people and older people, and consumers make their best financial decisions during middle age, when they’ve collected sufficient life experience but haven’t yet suffered from age-related mental impairments.)

Part of the problem seems to be that our financial world has gotten so complicated: Consumers must sort through dozens of savings options, retirement investment choices, and mortgage varieties, for example. While people do learn from their financial mistakes, some choices happen so infrequently, such as retirement planning or student loan borrowing, that there’s no room for trial and error.

That reality is one reason for the rush of new legislation over the last few years, including the Dodd-Frank Act of 2010, which created the Consumer Financial Protection Bureau, and the Credit Card Act of 2009, which required greater disclosures on credit card statements, along with other consumer-friendly measures. Financial education has also enjoyed a boost; the Obama Administration released its own financial literacy program earlier this year, and an increasing number of high schools are adopting financial education programs.

Amid that backdrop, the paper’s authors urge better evaluation of financial education courses, since certain methods, such as focusing on “rules of thumb” rather than more abstract financial principles, seem to make more of an impact on participants. The goal, after all, isn’t to create a population of personal-finance experts, but rather to help people make better decisions for their own money.

Twitter: @alphaconsumer