What Works in Financial Education
Annamaria Lusardi, a professor of economics at Dartmouth College and editor of Overcoming the Saving Slump: How to Increase the Effectiveness of Financial Education and Saving Programs, is one of the country's top researchers on financial education. In conferences and speeches, Lusardi argues that financial literacy today is as important as learning to read and write. After all, we have to make our own financial decisions now, whether we like it or not. BusinessWeek's Amy Feldman spoke with Lusardi about what works, what doesn't, and how to get people to do the right thing.
We've been hearing about financial education for a long time. But the financial crisis and rise of 401(k)s over pensions has increased its urgency. What are your thoughts on where we're at?
We are moving toward a world of more financial decision-making. I think of this as, almost, the Great Transformation. The economic system in which we live is going to be different as people take charge of these decisions that were previously made by either the employer or the government. In such a world, we cannot leave people financially illiterate.
Why has it been so hard to teach financial literacy?
Many of the programs are way too limited to have any effect. So we see, for example, an employer offering one retirement seminar a year. But if you give me an hour of physics, I am not going to be able to go out and fix my car. People say, "We have given a retirement seminar and people did not change their behavior." It doesn't surprise me that behavior did not change. People do not make decisions easily. Everybody wants to see the result next month, but education does not work like that. It takes a long period of time.
What does work?
Financial decisions are often very complicated, so we need to provide tools to make it easy to make decisions, or to simplify the decisions themselves. We have evidence that repeated programs do work. For example, the program to stimulate savings among low-income workers, who are least likely to save. With this individual development account, people are offered an account with a match to save for retirement or to buy a house or for education. It is accompanied by financial education. There is evidence that more people are more likely to change behavior.
That's interesting because the program combines behavioral economics, in which people are nudged to do the right thing, with financial education.
You really touch on what I was going to say. The best way to look at financial education is not as a substitute for other programs, but as a supplement. It's not that companies should not offer matching contributions, or that they should not do auto-enrollment [in which employees are automatically enrolled in 401(k)s unless they opt out]. What I do think is problematic is the idea that auto-enrolling people is a great way to solve the savings crisis. If people have credit-card debt, then enrolling them into a pension is not helping them at all. They need to first decrease that credit-card debt at 20% or 25% interest rate, and then save. That in particular has raised our concern. That's why we need to complement these programs with financial education.
The way you're talking about financial education, it sounds almost too broad—and too basic—to be done in the workplace. Is this something that should be done in schools?
There is no excuse not to start financial education in school. We need to educate people before they make financial decisions, not after. There should be a public policy about that.
Many companies are trying to offer financial education programs to their employees. Who's doing it well?
One company that has done it well is IBM (IBM). One of the things I really like about them is that they thought of financial education as a complement, not as a substitute. They auto-enrolled people, but also offered financial education. The second thing they did that I think was very clever is their financial education wasn't just about retirement, but about all the financial decisions people are making. One financial decision is not isolated from all the others.
The third thing is that they focused not just on the worker, but the family. I laugh because it speaks very cleverly to how financial decisions are made. They are not made in a vacuum. There is a discussion with the spouse, and often women are in charge of the finances.
The IBM program raises the question of cost. Can these programs be designed in a way that is cost-effective enough for them to be widely adopted?
Whenever I talk about financial education, there is always somebody in the audience who says, "What about the cost?" I definitely want to to talk about cost because we have to do a cost-benefit analysis. But people always think about the cost, never about the benefit. There are huge benefits of people making good financial decisions, and this financial crisis has made it very clear what the benefits are. The question is, who should bear this cost? From the employer perspective, why should the employer pay the whole cost? The employer will have some benefit if there is an increase in productivity.
But we should not impose a tax just on employers. I see a role here for the government. Think of the cost of this bailout. That's way above any cost of financial education. I don't want to argue that we had the crisis because of financial illiteracy, but it did play a minor role. The costs can be very high. The lives of some people have been destroyed because of mistakes they have made. I hope this financial crisis will make it clear how important it is to educate people and what the costs of not doing so are.
Are there other countries taking a more proactive approach?
The U.K. is very serious about this topic. Back in 2005, they did a survey that tried to assess how much people know about finances and how well they are managing their financial resources. They found that people made all kinds of weird decisions. As a result, they created a national strategy for financial capability that included adding financial education in schools.
I was very impressed with New Zealand as well. The government there has a very clear role in financial literacy and education. Financial education will be introduced in schools throughout New Zealand. I have worked on this issue for many years and gone to so many countries.
In the U.S., we have become more sensitive about these issues recently. Other countries are already doing so much more. The U.S. is lagging behind.
Financial knowledge and savings patterns break down differently by race and gender. Should financial education be targeted to specific groups?
This is lesson No. 1 for marketing. To be effective we have to target programs differently. That is one of the reasons the current financial education programs do not work. I think we have to be very serious about gender differences, and to recognize that women and men are very different in their financial decisions. Women know less about economics and finance in every age group and every country. Similarly, for race. There is a huge difference in savings behavior by race. [African Americans and Hispanics join 401(k) plans at lower rates than do whites or Asians, and contribute smaller percentages of their incomes.] One-size-fits-all does not work. We need to listen to what people want and talk about their needs. When you listen to people's concerns and why they are not planning for retirement, many mention children. If we go in and talk about retirement planning and don't talk about their children, we haven't addressed their concern and they won't listen.
How might that work?
We need to move away from this simple view that if you provide information people will act on it. Think about commercials. Marketing people know what motivates people. How do we get people to buy a Toyota (TM)? The commercial does not give a lot of statistics. It tells us what will make us happy about driving this car. We need to think about the ways that people really understand information.