Financial Education, Financial Competence, and Consumer Welfare
Global Financial Literacy Excellence Center Working Paper No. 2014-4
51 Pages Posted: 27 Mar 2015
Date Written: October 15, 2014
We introduce the concept of financial competence, a measure of the extent to which individuals’ financial choices align with those they would make if they properly understood their opportunity sets. Unlike existing measures of the quality of financial decision making, the concept is firmly rooted in the principles of choice-based behavioral welfare analysis; it also avoids the types of paternalistic judgments that are common in policy discussions. We document the importance of assessing financial competence by demonstrating, through an example, that an educational intervention can appear highly successful according to conventional outcome measures while failing to improve the quality of financial decision making. Specifically, we study a simple intervention concerning compound interest that significantly improves performance on a test of conceptual knowledge (which subjects report operationalizing in their decisions), and appears to counteract exponential growth bias. However, financial competence (welfare) does not improve. We trace the mechanisms that account for these seemingly divergent findings.
Keywords: financial literacy, financial competence
JEL Classification: C91, C93, D03, D14, D60, D61, I21, I22
Suggested Citation: Suggested Citation