Financial Illiteracy and Pension Contributions: A Field Experiment on Compound Interest in China

Abstract

We design a field experiment to study the relationship between neglect of compound interest and pension contributions in rural China. We randomly assigned some households to a financial education treatment, emphasizing the concept of compound interest. This treatment increased the pension contribution by roughly 40%. To pinpoint mechanisms, we elicited financial literacy after the intervention, and added a third group in which we explain the pension benefit in general. We find that the neglect of compound interest is correlated with low contributions to the pension plans in the control group, and that financial education about compound interest does help households partially correct their erroneous understanding of compound interest. Moreover, explaining compound interest increases their ability to translate benefits into their own situations.

Keywords: Pension, Retirement savings, Financial Education, Exponential Growth Bias

JEL Classification: D03, D14, J26, O16