“College graduates spend 16 years gaining skills that will help them command a higher
salary. Yet, little or no time is spent helping them save, invest and grow their money.”
- Vince Shorb, CEO of the National Financial Educators Council
We no longer live in a world of friendly bank managers, where the most difficult financial decision was when to claim the retirement pension, and most transactions were made with cash. The shift towards virtual spending amplified the possibility of over-using credit, while the range of financial products accessible to end users has exponentially increased. Financial markets and related services play a significant role in shaping the average individual’s social and economic life. Meanwhile, their complexity and consequent risks are expanding: it’s not just about managing a bank account (often having to juggle around to find the most convenient option), but also about contracting a debt, calculating the tax impact on their wealth, and dealing with self-determined retirement plans. It is easy to see that the newer generations are continuously faced with critical decisions to take charge of their financial future, prompting the need to grasp finance basics.
The decisions taken by people reflect their level of financial literacy. The most exhaustive definition is given by Atkinson and Messy (2012), and it is the one used by the OECD, for which financial literacy is the 'combination of financial awareness, knowledge, skills, attitude, and behaviours necessary to make sound financial decisions and ultimately achieve individual financial wellbeing'.
Those who can make proper financial decisions are more likely to hedge against financial risks and achieve their goals, supporting economic growth and contributing to the whole system's stability. The recent experience of the 2008 financial crisis taught us that uninformed individuals can fall victim to inappropriate financial products, a situation worsened by an escalating shift of risk to individuals.
Financial literacy in the EU
Sometimes big events miss the chance of giving an important lesson: despite the low-income households being hit the hardest during the 2008 Financial Crisis, a 2020 Survey (data were collected in 2018) showed that only a small proportion of individuals in the EU have a sufficient level of personal savings to absorb the financial stress caused by the current COVID-19 pandemic.
Despite the arresting rates for which almost half of the people in EU countries reported they would only sustain themselves for up to one month, the most alarming result is that 16% of people reported they are not even aware of their savings. Understanding how to budget is of pivotal importance, especially in such difficult times. As mentioned by Catherine McGuinness, policy chief at the City of London Corporation, 'If we’re to have a sustainable recovery, it is vital that people… understand how their financial decisions will affect them over the short, medium and long term'.
On average, 52 per cent of adults in the EU are financially literate. Yet, findings across countries are contrasting: Denmark, Sweden, the Netherlands, and Germany are among the world’s best performers with at least 65 percent of adults being financially literate; however, as we move to the South, states such as Romania and Portugal have some of the lowest rates in the EU, with only 22 percent of citizens being financially literate.
This means that around half of EU citizens cannot correctly answer questions requiring low levels of financial knowledge, let alone develop a proper decision process when faced with complex financial choices.
Across the EU, differences exist on a gender base as well. Women are more likely to be financially illiterate, a situation worsened because they are also more likely to engage in a temporary job than men are. It comes without saying that this creates a lethal mix for bringing up financial vulnerability among this category.
Differences in this gap are found throughout EU countries: the gender gap in financial literacy is highest in Italy and Spain, but Central Europe only performs slightly better. Suppose we match this disparity because women have a longer life expectancy than men, a lower lifetime income, and shorter careers. In that case, it is even more critical to ensure they make proper financial decisions, especially in an historical conjuncture where they are 1.8 times more likely to lose their job than men.
Challenges for the EU
There are three main arguments which explain why financial literacy matters so much for us as individuals, and why this is particularly true for the EU given its current socio-economic state of affairs.
Firstly, Europe is an ageing continent, and it is estimated that by 2050, the ratio of working people to those aged 65 and over will shift from four-to-one to two-to-one. At the same time, public pensions ratios are expected to remain stable throughout the EU, translating this shift into an unbearable burden on public finances. Consequently, more countries are shifting to contribution systems, where the employee is in charge of choosing how much to direct in life savings. Aside from that, there is an increasing number of individual pensions products and private savings. The problem is that many people do not know about these possibilities, thus are less incentivized to save more. There is a direct link between financial literacy and retirement planning: being more literate boosts intentions to save and save a greater amount.
A second reason is that mortgage debt makes up an overwhelming percentage of total household debt in Europe: around 85.5 percent, with an even higher proportion for young households (ECB, 2016). Being aware of the mortgage options offered reduces the likelihood of falling into the trap of attractive but fraudulent financial offers.
Finally, financial literacy is essential for achieving inclusive growth, considered as such when individuals have equal opportunity to progress, regardless of their socio-economic background. Allowing people to get a better education and tools for making the proper decision in the complex financial world we live in is one of the basic conditions for achieving inclusive growth. There is a vast body of literature confirming that EU countries with higher financial literacy also have lower inequality levels.
Member States are moving on completely different trails when it comes to developing national financial education programmes. Some have already developed a national strategy, others have just started rolling out their initiatives. Some countries are focusing more on youths, while others pay more attention to elderly and other categories. In those countries where there is still no clear national program, most of the initiatives come from banking associations or NGOs, but unfortunately they are not among government priorities.
European institutions have started paying greater attention to financial education as a complement to the increasing regulation of financial markets to prevent international crises and avoid consumer frauds given that, according to Article 165 of the Treaty on the Functioning of the European Union, promoting financial education is under Member States' responsibility.
The European Commission stressed the impact of financial education on consumer protection, publishing in February 2015 the Green Paper on Capital Markets. A remarkable effort is being made by the European Banking Federation, which represents 32 national banking associations and has among its priorities the awareness of consumers. One of the most prominent initiatives is the European Money Week, launched in 2015 (the 2021 edition will take place from 22nd March); this event promotes roundtables, conferences and workshops on financial education targeted at children and young people. Overall, however, the landscape of Pan-European initiatives is still very mixed and at an early stage.
Conclusion
Growing financialisation and complexity demands that financial literacy be an integral part of the EU level's research agenda. In the face of the ageing population, the overwhelming share of mortgage-debt on euro-area household-debts, and the negative association of financial literacy with elements of inclusive growth, namely inequality, gender gap, social immobility, it is mandatory for both the EU as a whole but also for national programmes to get a boost.
Financial education needs to be integrated into school curriculums, allowing the youngsters to build numeracy skills and raise their financial awareness as early as possible. Moreover, campaigns need to be tailored for different communities, such as low-income groups, families, young people, to empower people with the knowledge they need, stepping away from the “one size fits all” programme. They need to know which are the most critical areas for their citizens, which brings us to the last recommendation: the establishment of national financial literacy surveys. Such studies should focus on a representative sample of the population and should assess both the financial knowledge and financial behaviour of the individuals, to tailor educational programmes and study their effects.
Such policies, coupled with financial consumer protection, can effectively shield citizens and support financial stability and inclusive growth, equipping them with the know-how necessary to secure their financial future.
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