Financial Literacy and Stock Market Participation

48 Pages Posted: 17 Sep 2007  

Maarten van Rooij

De Nederlandsche Bank; Netspar

Annamaria Lusardi

George Washington University - Department of Accountancy; National Bureau of Economic Research (NBER)

Rob Alessie

Utrecht University - Utrecht University School of Economics; VU University Amsterdam - Department of Economics

Multiple version iconThere are 3 versions of this paper

Date Written: September 2007

Abstract

Individuals are increasingly put in charge of their financial security after retirement. Moreover, the supply of complex financial products has increased considerably over the years. However, we still have little or no information about whether individuals have the financial knowledge and skills to navigate this new financial environment. To better understand financial literacy and its relation to financial decision-making, we have devised two special modules for the DNB Household Survey. We have designed questions to measure numeracy and basic knowledge related to the working of inflation and interest rates, as well as questions to measure more advanced financial knowledge related to financial market instruments (stocks, bonds, and mutual funds). We evaluate the importance of financial literacy by studying its relation to the stock market: Are more financially knowledgeable individuals more likely to hold stocks? To assess the direction of causality, we make use of questions measuring financial knowledge before investing in the stock market. We find that, while the understanding of basic economic concepts related to inflation and interest rate compounding is far from perfect, it outperforms the limited knowledge of stocks and bonds, the concept of risk diversification, and the working of financial markets. We also find that the measurement of financial literacy is very sensitive to the wording of survey questions. This provides additional evidence for limited financial knowledge. Finally, we report evidence of an independent effect of financial literacy on stock market participation: Those who have low financial literacy are significantly less likely to invest in stocks.

Keywords: Portfolio choice, Knowledge of Economics and Finance, Financial Sophistication

JEL Classification: D91, G11, D80

Suggested Citation

van Rooij, Maarten and Lusardi, Annamaria and Alessie, Rob, Financial Literacy and Stock Market Participation (September 2007). ; Michigan Retirement Research Center Research Paper No. 2007-162. Available at SSRN: https://ssrn.com/abstract=1014994 or http://dx.doi.org/10.2139/ssrn.1014994

Netspar ( email )

P.O. Box 90153
Tilburg, 5000 LE
Netherlands

Annamaria Lusardi

George Washington University - Department of Accountancy ( email )

George Washington University School of Business
Washington, DC 20052
United States

HOME PAGE: http://business.gwu.edu/profiles/annamaria-lusardi/

National Bureau of Economic Research (NBER)

1050 Massachusetts Avenue
Cambridge, MA 02138
United States

R.J.M. (Rob) Alessie

Utrecht University - Utrecht University School of Economics ( email )

Kriekenpitplein 21-22
Adam Smith Building
Utrecht, 3584 EC
Netherlands
31 30 253 9814 (Phone)
31 30 253 7373 (Fax)

HOME PAGE: http://www2.econ.uu.nl/users/alessie/

VU University Amsterdam - Department of Economics ( email )

De Boelelaan 1105
1081 HV Amsterdam
Netherlands
+31 20 444 6047 (Phone)
+31 20 444 6005 (Fax)

Paper statistics

Downloads
823
Rank
18,162
Abstract Views
3,261