In today’s rapidly changing economy, consumers need to be equipped with financial knowledge to make good choices with their money. This necessary knowledge is broadly termed financial literacy. However, studies show that many people are not financially literate. In fact, according to this study, only 57% of US adults are considered financially literate.
What does this mean for the other 40+ percent of US adults?
We’ll explore this concept in three ways: first, what is financial literacy, second, why does it matter, and third, why it’s worthwhile to improve it.
What is financial literacy?
At the core, financial literacy is the ability to understand and apply financial knowledge, skills, and concepts to make good financial decisions. It includes knowledge on a whole host of topics, like how to plan for a comfortable retirement, how to use a credit card responsibly, how to calculate interest on a mortgage payment, and more. A financially literate person is empowered to navigate the ins and outs of personal finance effectively, leading to better financial outcomes.
Why does financial literacy matter?
A FINRA Foundation study showed that people with higher financial literacy scores tended to exhibit better financial behaviors, such as spending less than they earn, having emergency savings, and planning for retirement. In other words, financial knowledge is a prerequisite for making good financial decisions. This correlation suggests that financial literacy is a key factor when it comes to building and retaining wealth.
What benefits come with improved financial literacy?
Here are some ways financial literacy can improve overall financial health:
- Better Decisions: Financially literate people have the financial knowledge and skills to make good decisions about their money. They understand the implications of their choices, whether that choice involves making a major purchase, taking on debt, or investing in the stock market. With this understanding, people can better align their financial goals with their choices, creating more financial stability.
- Stronger Foundation: Financial literacy helps people build a solid foundation for their financial well-being. If they have the knowledge early on to create and maintain a budget, manage expenses, and save effectively, they can avoid common pitfalls like living beyond their means or falling into debt traps.
- Discernment on Financial Products: Financial markets offer many products and services, ranging from credit cards and loans to investment and stock options. Without financial knowledge, individuals can easily fall for predatory practices or end up with the wrong financial products that do not align with their needs or goals. Understanding the terms, fees, risks, and benefits of various financial products lets people make informed choices and avoid excessive debt.
- Wealth Building: Financial literacy plays a crucial role in building wealth. Understanding the market of products lets individuals save wisely, consider different approaches to investing, and evaluate risk and return profiles. With a grasp of financial concepts, educated consumers can put their money to work for them, even growing their wealth over time, which will allow them to achieve long-term goals, like buying a house, funding education, or retiring comfortably.
- Less Financial Stress: Financial literacy empowers individuals to take control of their financial lives, reducing stress and anxiety associated with finances. By understanding concepts like budgeting, managing debt, and planning for emergencies, individuals will have the financial foundation needed to overcome challenges and will be more resilient in times of unexpected financial hardship.
Financial literacy is a vital life skill needed to handle today's complex financial landscape. By understanding and applying financial knowledge, people can make informed decisions, build a strong financial foundation, navigate financial products effectively, build wealth, and reduce financial stress. Cultivating financial literacy is an ongoing process that requires continuous learning and engagement. Ultimately, it empowers individuals to take control of their financial futures, promoting economic well-being and stability for individuals, families, and society.