| Financial education can benefit consumers of all ages and income levels. For young adults just beginning their working lives, it can provide basic tools for budgeting and saving so that expenses and debt can be kept under control. Financial education can help families acquire the discipline to save for a home of their own and/or for their children’s education. It can help older workers ensure that they have enough savings for a comfortable retirement by providing them with the information and skills to make wise investment choices with both their pension plans and any individual savings plans. Financial education can help those at low income levels make the most of what they are able to save and help them avoid the high cost charged for financial transactions by non-financial institutions such as cheque-cashing services. – Improving Financial Literacy, from the Organisation for Economic Cooperation and Development, 2005 |
Your level of financial literacy affects your quality of life profoundly. It shapes your ability to:
- Provide for yourself and your family
- Invest in your future and the future of your children
- Contribute to your community as a good citizen.
Yet making wise financial choices is harder than ever in today’s financial world. Why? Three main reasons:
- We face bigger, tougher financial decisions. Thirty years ago, many Canadians had pension plans that took care of them when they retired. Now more Canadians are responsible for their own financial security after they retire. What’s more, people are living longer and need to make their money last longer in their senior years.
This leaves investors trying to predict and plan for what life will be like 20 or 30 years after they retire – and what will happen in financial markets. Unless you have a crystal ball, it’s hard for many people to make the right choices today for saving, spending and borrowing.
- We have more ways to save and invest than ever before. A generation ago, many Canadians would have had a basic savings account, a chequing account and maybe some Canada Savings Bonds. Today, we have an array of ways to save.
There are savings accounts with fees that pay interest, and account with no fees that do not pay interest or limit the number of transactions each month. There are also term deposits and money market accounts. And there are tax-free savings accounts and retirement savings plans.
- Our investment options are more complex than ever. Financial markets and financial products are becoming more complex and harder to understand. New products arrive on the scene all the time – many with intricate strategies that require a deep understanding of financial markets. Many products are far from transparent, as we saw in the recent global financial crisis. This can make it harder for the average investor to fully understand the risks, the costs and the potential returns.
All these factors make it vital for Canadians to ensure they have a good level of financial literacy. For those who don’t, the cost can be high. This is especially true for low-income families, who will find it harder to recover from poor financial decisions.
A 2008 study by Annamaria Lusardi at Harvard/Dartmouth showed that those who are unable to correctly calculate interest rates out of a stream of payments – a basic financial skill – end up borrowing more and accumulating lower amounts of wealth. Those who severely underestimate the power of interest compounding are more likely to experience difficulties repaying debt. Read this study now
In a country like Canada with its social programs, poor financial literacy affects us all. After all, if people with low financial literacy make poor choices in saving, spending or investing their money, who will pay for their mistakes?
Good news: financial literacy could double your wealth at retirement
A 2008 Harvard/Dartmouth study shows that financial literacy is the essential first step in building wealth. Here’s why.
- Retirement planning is a powerful predictor of your ability to build wealth; those who plan have more than double the wealth of those who have not done any retirement planning.
- In turn, financial literacy matters for planning: those who are more financially knowledgeable are much more likely to have planned for retirement.
- Those who are financially literate when young are more likely to plan for retirement, showing that it is literacy that affects planning and not the other way around.
- In terms of economic importance, both the knowledge of interest compounding and the ability to perform simple calculations (such as a lottery division) are the strongest predictors of planning.
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