Profitwise News and Views
January 2004 Issue
Beyond Financial Education:
Changing Financial Behavior - A Portfolio of Applied Research Projects
By Michelle Coussens
This article is one in a series of PNV articles regarding a portfolio of applied research projects pertaining to financial training. The ultimate goal of these projects is to develop an approach to financial education that will better inform consumers and lead to measurable changes in personal and household financial management. The research portfolio's focus is on designing new approaches that move beyond traditional financial literacy training, drawing on the fields of cognitive psychology, anthropology and behavioral economics. This article provides background on the financial literacy field, along with a discussion of the role of expanded knowledge in changing behavior.
Study Overview
The Federal Reserve Bank of Chicago has an interest in educating consumers in the area of financial literacy as part of its overall commitment to the nation's economic welfare: "Recognizing the importance of educated and informed consumers to the operation of efficient markets, the Federal Reserve has been an active provider of economic literacy materials to help students and the public better understand the U.S. economy and the role of the Federal Reserve. Each of the twelve Federal Reserve Banks supports this objective through a wide variety of education partnerships, publications, learning tools, and student challenge contests."1
While historical and current financial literacy programs predominantly emphasize informing consumers, this article introduces the reader to a study underway to develop and demonstrate a successful, cost-effective financial education program to influence financial behavior.
Background: Why is Improving Household Financial Behavior Important?
Improving household financial behavior benefits both the consumer and the financial system at large. The consumer benefits in many ways. The most significant benefits are: reduced likelihood of falling victim to predatory lending or credit-related fraud; a better understanding and awareness of options in the marketplace for financial services; decrease in credit risk and/or unintended investment risk; lower vulnerability to economic shocks such as unexpected job loss; and improved planning and balance between current expenditures and future financial needs.
Financial institutions and the financial system at large also benefit. Desired effects include: improved efficiency of market operations and competitive forces; decrease in bankruptcies, defaults, and their effects; and increase in investments for future economic development.
Financial Trends in American Households
A 2000 report by the Woodstock Institute states, "financial knowledge has become not just a convenience but an essential survival tool."2 Recent trends impacting the financial decision-making of American households have been a mixed blessing. While we have greater opportunity to influence our current and future financial status, we also have incurred significantly more direct responsibility for our financial well-being in an increasingly complex world. Some of the trends significantly influencing financial attitudes and decisions include:
- Financial product innovation and marketing: Increased marketing and use of both new and existing products has allowed financial institutions to better address individual customer needs, but it has also allowed for increased manipulation of consumers. Credit card options have proliferated and even households previously lacking access to credit (including college students) receive frequent credit card offers.
- Technological advances: The Internet and other advances have allowed information, marketing, and tools to increase in speed, sophistication, and availability. Consumers reap the benefits of increased awareness, access, and efficiency, but can also suffer from information overload and the lack of effective tools to discern competitive offers from others.
- Consolidation and restructuring of the financial services industry: Financial entities continue to consolidate both within their own organizations and via mergers and acquisitions with other financial organizations. Lines between banks and non-banks have blurred, as insurers, securities firms, and other new entrants have begun to compete for customers and to create new and hybrid financial products.
- Changes in retirement and, pension plans: Clark and d'Ambrosio's 2002 paper, "Financial Education and Retirement Savings" points out, "In the twenty-first century, American workers will be required to assume greater responsibility for determining their retirement income. Many workers will have to decide whether to participate in a company pension plan, how much to contribute, and how to invest these funds."3 Potential changes in Social Security retirement benefits will also impact consumers.
- Shifts in consumer attitudes: Society has become less concerned with saving for the future and more concerned with immediate satisfaction. The "live for today" mentality is increasingly permeating society. In an Employee Benefits News article, Kathy McNally, vice president for financial literacy at the National Foundation for Credit Counseling suggests that, "We truly are an instant gratification nation, where people have stopped differentiating between wants and needs."4 Goods and services traditionally considered to be luxuries have become necessities. Living within our means is being redefined away from use of liquid assets to use of all available sources of assets and credit.
Why Current Approaches to Financial Education May Be Inadequate
The trends in Figure 1 indicate that current approaches to financial literacy training may be inadequate. Federal Reserve Board Vice Chairman Ferguson has remarked, "We certainly expect that economic and financial literacy can keep people from making uninformed decisions. But, it cannot keep them from making bad decisions. Additionally, education will not always overcome circumstances. Also, education will not overcome human nature. Procrastination, for example, can heavily affect financial outcomes, and education may not overcome the tendency to put off financial changes. For example: in a study of defined contribution plans by James Choi and others, one-third of self-reported undersavers said they intended to increase their savings rate in the next few months, but almost none actually made a change in their 401(k) savings rate. This finding amply demonstrates the value of bringing a variety of disciplines to bear in creating effective programs."6
This portfolio of applied research projects targets an unusual population in the realm of financial education initiatives. It focuses on moderate- to high-income individuals, who are well-educated (perhaps overall, but certainly in regards to household financial management), who are not financially disadvantaged/victimized, and who, through their own behavior, not only fail to take advantage of that knowledge for their present and future financial well-being, but risk financial disaster. Such behavior includes "burning"7 money by using revolving credit card balances; using payday loans; and regularly using ATMs that require fees. This behavior also includes passive financial mismanagement, such as inadequate saving for retirement and the failure to shop carefully for significant loans or other financial products.
Project Portfolio
Drs. Suzanne Fogel and Nina Diamond of DePaul University, along with Federal Reserve Bank of Chicago staff members have begun a portfolio of projects that individually and collectively seek to improve long-term consumer financial behavior, particularly for those who have financial information and resources, but are not currently using them effectively.
Project Descriptions
Qualitative Research
- Review of Representative Financial Literacy Programs:
The goal of this project, which is in progress, is to inventory representative financial training programs, summarize and contrast program characteristics, and to identify the
theoretical assumptions underlying their design. In addition, it will highlight input received from program leaders regarding program effectiveness based on both perception
and measurement (when available).
- Behavioral Economics and Cultural Analysis: The goal of this project is to examine household financial management practices and the culturally agreed upon meanings that guide those practices and relate these practices to current economic and psychological theory to derive implications for design and development of effective financial literacy programs.
Field Study
- Individual/organization interviews, focus groups, written surveys and ethnographic research will be employed to understand how people actually go about making their daily financial decisions.
Creation and Execution of Pilot Training Program
- Based on the lessons learned in the projects above, the researchers hope to design and pilot a financial education program. Such a program would focus on consumers with adequate financial means and educational attainment to allow them to operate effectively in the financial sphere, but who are having problems doing so. The pilot program would be rigorously evaluated to determine whether it was more effective than traditional financial literacy programs in changing behavior.
What's At Stake
Statistics quantifying the impact of counterproductive financial decisions are not readily available, nor are they easily derived. One could estimate the relative magnitude of such impact by considering Year 2000 Census household projections and debt and payment indications from the 2001 Survey of Consumer Finances, and then calculate estimates of dollars wasted ("burned") per household.8 Conservative assumptions show that financially educated households may still be collectively wasting at least $1 billion per year. Other estimates suggest that the amount could be as high as $12 billion. Such waste would certainly contribute to inefficiency in our financial system, adversely impacting our economy. Financial literacy initiatives must continue and improve. While financial education informs, it does not necessarily ensure changed behavior. It may be an insufficient means to achieving the end result desired. This portfolio of projects aims to draw on research in cognitive psychology/anthropology and economics, as well as the best practices in the financial literacy and self-help fields to identify practical, cost-effective ways to improve making financial decisions that will benefit both the individual consumer and the overall economy.
References
Braunstein, Sandra and Carolyn Welch. Financial Literacy: An Overview of Practice, Research, and Policy, Federal Reserve Bulletin, 11/02
Clark, Robert L. and Madeleine B. d'Ambrosio. Financial Education and Retirement Savings. Presented
at Retirement Implications of Demographic and Family Change Symposium, San Francisco, 06/02
Elswick, Jill. Workers' Deficit Spending Requires More Education, Employee Benefit News, 6/15/02, Vol. 16, Issue 8
Ferguson, Roger W., Jr. Reflections on Financial Literacy, National Mortgage News, 6/10/02, p.4
Jacob, Katy, Sharyl Hudson, and Malcom Bush. Tools for Survival: An Analysis of Financial Literacy Programs for Lower-Income Families, Woodstock Institute, 01/00
News Release. Retirement Anxieties Grow, But Overall Confidence Changed Little Despite Sagging Stock Market, Retirement Confidence Survey, April 11, 2003
108th Congress, 1st Session. Senate Resolution 48, designating April 2003 as "Financial Literacy for Youth Month," 02/05/03
Survey of Consumer Finances (2001). www.federalreserve.gov/pubs/oss/oss2/2001/scf2001.information.html 
U.S. Census (2000),www.census.gov
Michelle Coussens is the senior policy advancement project leader at the Federal Reserve Bank of Chicago. She manages a Bankwide policy advancement initiative designed to influence the development of sound public policy by exploring, developing, and advocating Bankwide proposals and by evaluating and responding to external requests for comment. She holds a Bachelor of Arts degree in mathematics from Northwestern University and a Master of Business Administration from DePaul University.
Unless otherwise referenced, the views presented in this paper are those of the author alone, and they do not necessarily reflect the views of the Federal Reserve Bank of Chicago, the Federal Reserve System, or its staff. The author wishes to thank Anna Paulson and Ed Green at the Chicago Fed for their advisement, and Susan Parren for her research assistance. The author also thanks a number of academics and practitioners for their comments on the project outline associated with this article: James Choi, Joan Henderson, Jeanne Hogarth, Virginia Hopley, Gerri Kozlowski, Dave Leeney, John Pattison, Rae Rosen, Bobbie Salgado, Guy Summers, Julia Talbot, Christopher Tan, Garth Taylor, Jennifer Tescher, and James Thomas. Their comments do not necessarily imply endorsement. Any errors in this paper are the responsibility of the author alone.
Notes:
1 Braunstein, Sandra and Carolyn Welch. Financial Literacy:
An Overview of Practice, Research, and Policy, Federal Reserve Bulletin, November 2002.
2 Jacob, Katy, Sharyl Hudson, and Malcom Bush. Tools for Survival: An Analysis of Financial Literacy Programs for Lower-Income Families, Woodstock Institute, January 2000, p.3.
3Clark, Robert L. and Madeleine B. d'Ambrosio. Financial education and Retirement Savings. Presented at Retirement Implications of Demographic and Family Change Symposium, San Francisco, June, 2002.
4Elswick, Jill. Workers' Deficit Spending Requires More Education, Employee Benefit News, 6/15/02, Vol. 16, Issue 8.
5108th Congress, 1st Session. Senate Resolution 48, designating April 2003 as "Financial Literacy for Youth Month," 02/05/03.
6Ferguson Jr, Roger W. Reflections on Financial Literacy. National Mortgage News, 6/10/02, p.4.
7"Burn" represents the cost of counterproductive financial decisions such as, (based on borrowers risk profile), paying above market interest and/or fees.
8Based on Glaeser and Paulson (1997). Calculate the dollars lost when consumers follow a rule of thumb in managing savings versus consumption decisions relative to optimally choosing how much to save each period.
9Household income, age and education from the 2000 Census; credit card, debt payment, and payment past due data from the 2001 Survey of Consumer Finances.
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