Do you feel like you are financially literate?

Do you know what financial literacy is?

If not, that’s okay.

The goal of this post is to help you to understand what financial literacy is and why you should care about it.

Let’s break it down.

Let’s start with the word literacy. When someone is ‘literate’ it means they have the knowledge and skills that are necessary to read and write.

When someone is ‘financially literate’ it means they have the knowledge and skills that are necessary to make well informed decisions about their personal finances.

A definition of financial literacy

The Organization for Economic Co-operation and Development (OECD) and it’s International Network on Financial Education (INFE) define financial literacy as:

“A combination of awareness, knowledge, skill, attitude and behaviour necessary to make sound financial decisions and ultimately achieve individual financial wellbeing.”

People who are financially literate are able to effectively do things such as:

• Make a budget
• Save money (for a car, house, retirement etc.)
• Pay off (or avoid) student loans
• Use a credit card
• Achieve financial stability
• Etc….

People who lack financial literacy often find themselves in the following situations:

• Unable to make a budget
• Unable to save money
• Unable to pay off their student loans
• Drowning in credit card debt
• Living pay check to pay check
• Etc….

You get the picture.

According to a 2017 survey conducted by Ipsos on behalf of lowestrates.ca, 78% of Canadians believe they are financially literate. However, studies show that the actual results are much lower.

Before we get into the numbers let’s look at one of the ways financial literacy can be measured.

How is financial literacy measured?

To gain an understanding of financially literacy among Canadians a 2015 study published in the Journal of Pension Economics and Finance proposed three survey questions to a group of nearly 7,000 Canadians from across the country. This survey has been distributed in many countries around the world allowing it to be used for comparison between countries.

1. The first question was used to see how Canadians understood the topic of Interest Rates

“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.

2. Question 2 looked at Canadians understanding of Inflation

“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.

3. The final question looked at Canadians understanding of Risk and Diversification

“Is the following statement true or false? Buying a single company’s stock usually provides a safer return than a stock mutual fund.”

• True;
• False;
• Don’t know.

Only 42% of the respondents answered all three questions correctly. When compared with other countries, these results are comparable. For example, 30% of American respondents answered the questions correctly and 53% of German respondents.

Who performed the worst?

Who performed the worst was also comparable across countries. In general women, those younger than 35, and the uneducated had the worst performance.

Other studies measuring financial literacy have presented similar results

The 2017 survey conducted by Ipsos on behalf of lowestrates.ca presented a series of different questions to measure financial literacy. They found almost identical results with only 43% of Canadians found to be financially literate. Again, women performed worse then men and millennials performed worse then Gen X-ers and Babyboomers.

Another interesting finding from the study.

It seems we millennials suffer from a case of over confidence as our cohort was the most likely to rate our financial literacy as “excellent” yet we failed the quiz more than any other generation included in the study. WAH, WAH. Check out the full survey here. It’s a quick and interesting read and they do a good job of presenting the results in a digestible manner.

Some good news….

The good news. When it comes to financial literacy, Canadian youth (age 15) rank among the top in the world.

The results of a 2015 PISA study ranked Canadian youth third, after China and Belgium on mean performance on financial literacy.

While this is good news it’s not something to jump up and down about. On a five level scale (5 = top proficiency, 2 = baseline proficiency, 1 = lowest level proficiency) Canadian youth rank a level 3 (only 1 level above baseline proficiency). A level 3 proficiency means they can do things like:

• Apply financial terms and concepts to situations relevant to them (e.g. if you were responsible for two motorbike accidents last year how will that affect your motorbike insurance? Increase, stay the same, decrease.
• Basic financial planning
• Begin to consider consequences associated with financial decisions
• Perform simple budget calculations

While this is a good start there is still a lot of room for improvement.

I won’t get onto the “there should be financial planning classes built into the high school curriculum rant” but….we really should be doing more to educate students on the basics of personal finance as these are skills that everyone is required to use on a daily basis.

Why is financial literacy important?

Studies have demonstrated that people who are financially literate are more likely to plan and save for retirement. Those who are not financially literate are less likely to have the resources necessary to retire with some level of comfort.

I would argue financial literacy is becoming more and more important for Canadians for a few reasons:

• People continue to live longer therefore, you need more money to sustain your retirement. This is especially true for women who generally outlive their male counterparts and, based on the study results, tend to have lower scores of financial literacy.
• The likelihood of a decent company pension is becoming less and less. The reality is that most of us millennials and gen z-ers will be responsible for funding our retirement. So, it’s up to us to make a solid retirement plan and start saving.
• In addition, young employees are far less likely to stay at a company long enough to gain a pension. The days of working at a company for 30 years and having a company sponsored pension are over. Big  companies are employing more an more contract workers which prevents them from having to provide employee benefits and pensions.

Why you are lucky!

Back when I was graduating high school we had dial up internet…..

Dial up.

We connected to the internet through a telephone line.

It took 15 min, literally, to download an image.

At this time “googling” wasn’t a verb, and Google wasn’t a thing. 

Gasp!!! Can you imagine a life without Google.

Today you have instant access to an unlimited amount of information. I understand this can be a a bit daunting and you have to decipher the difference between good information and pure crap but, if you want to learn about something, you can! The information is literally at your finger tips.

All I can say is that the sooner you take action to become financially literate, the better. If you can develop good patterns now then it will be much easier for you to stick to them in the future.

Take one small step today. Visit the Government of Canada’s website and take their Self Assessment Quiz to find out how financially literate you are in comparison to your fellow Canadians.

Remember, no one cares about your money more than you do. So, do your self a favour and make financial literacy a priority.  Your future self will thank you! 

 

references

Cover Photo by Syd Wachs on Unsplash

Google Photo by Benjamin Dada on Unsplash

Beacg Photo by James Connolly on Unsplash