By Craig Erwin, Ph.D.
You are likely to be better at managing your finances if you have a solid understanding of financial principles. Seems pretty obvious, but it can make a much bigger difference than you might think. Olivia Mitchell and Annamaria Lusardi conducted research which shows that those who are financially literate are better prepared for retirement.
Financial literacy means knowing how to manage money, manage debt, and save and invest. If you lack these skills, you may fail to save and invest and you may carry too much debt, or debt at high interest rates.
According to Investopedia, financial literacy is “the ability to understand and use various financial skills, including personal financial management, budgeting, and investing.” Obviously, financial literacy is likely to result in better financial health and better financial decisions. Mitchell and Lusardi uncovered some scary ways in which many of us fail to prepare for retirement. Based on the data gathered in their survey, around 28% of older adults in the U.S. fail to plan for retirement or consider the importance of planning. Just 18% have some success at planning for retirement or executing a savings plan, and over 30% said they have excessive debt as they approach retirement.
Mitchell and Lusardi also constructed a very simple financial literacy test. Under 40% of those aged 55 to 59, who took the test, appeared to understand interest rates, inflation, and risk diversification. These people are on the cusp of retirement, yet they lack knowledge of the most basic money management principles.
Mitchell and Lusardi also found that financially literate individuals have higher credit scores, are better at making financial decisions, are more active in managing their finances, and more likely to seek professional help. They are also more financially resilient (better able to handle and bounce back from temporary financial setbacks). Although financial literacy can’t solve all financial problems quickly, it can make planning for problems more effective and coping with problems less painful. People will always lose jobs, get divorced, and get sick and injured, but these situations tend to be much worse for those lacking financial literacy.
So, regardless of your age and situation, do everything you can to increase your financial literacy. You can find buckets of helpful information all over the Web. Not only will financial literacy pay off now, but its benefits will be magnified decades from now. You don’t want to reach retirement age lacking the resources to retire and the knowledge of how to squeeze the most out of the resources you have.
How financially literate are you? Are you confident that you understand money management fundamentals? Is your retirement savings plan on track?
For more information on financial literacy, planning, saving, and investing, click on the following links: