Using the Right Yardstick: Assessing Financial Literacy Measures by Way of Financial Well-Being

Abstract

With the shifting of responsibility for retirement planning and risk from employers to employees, as well as the increasing complexity of household finances, researchers, policy makers and practitioners have become increasingly concerned with the financial literacy of the U.S. population. Despite the proliferation of academic studies examining the relationship between financial literacy and a variety of financial outcomes no consistent definition or empirically validated measures of financial literacy exist. Questions currently used to assess financial literacy primarily ask about knowledge of compound interest, inflation, and portfolio allocation/risk, which may have little relevance for low-income/asset populations. Using data from the Health and Retirement Study (HRS) we examine whether existing measures of financial literacy are consistent and effective predictors of successful asset accumulation, resilience to asset loss and changes in retirement expectations. We find no evidence that existing questions predict future financial outcomes, or even that individuals consistently answer these questions across survey waves.

Keywords: financial literacy, asset accumulation, financial resiliance

JEL Classification: D12