What Is The Definition Of Financial Literacy?

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You've probably heard the term “financial literacy” before, but what does it mean? So, I want to first define financial literacy. Financial literacy is “the ability to understand and use financial concepts and make sound decisions about personal finances.” In other words, it's the ability to understand and manage financial resources effectively.

While financial literacy is essential for people of all ages, it's vital for young adults and college students who are just starting to establish their financial habits. Unfortunately, many millennials and college students are not financially literate. A National Endowment for Financial Education study found that only 24% of millennials have a “good” understanding of personal finance.

Why is financial literacy Important?

Millions of Americans live paycheck to paycheck with little to no savings. Nearly four in 10 adults say they couldn't cover an unexpected $400 expense, according to a report from the Federal Reserve. Financial stress can affect our physical and mental health, leading to problems like anxiety, depression, and even substance abuse. That's why it's so important to be financially literate.

Financial literacy empowers people to make informed choices about their money and gives them the tools they need to build a solid foundation for their financial future. It's never too early or late to learn about personal finance. Whether you're just starting on your own or you've been managing your finances for years, there are always new things to know.

A lack of financial literacy can lead to harmful decision-making and long-term consequences. For example, suppose you want a new car but don't have the cash to pay for it outright. You could finance the car through a dealership at a high-interest rate without shopping around for other options first. This would cost much more in the long run than getting a loan with a lower interest rate from your bank or credit union. If you had been financially literate, you would have known to shop around for the best interest rate before making a decision.

Being financially literate can also help you achieve your long-term financial goals. If you understand how to manage your money wisely, you're more likely to be able to save up for a down payment on a house or have retirement savings. And if you have any debt, being financially literate can help you figure out the best way to pay it off.

How is financial literacy measured?

There isn't a single, definitive way to measure financial literacy. However, there are a few different ways that experts have tried to quantify it.

One way is to look at financial knowledge. This could involve measuring how well people understand key financial concepts, such as inflation or compound interest. Another way to measure financial literacy is to look at financial behaviors. This could involve tracking how often people save money or whether they have a budget.

The Organization for Economic Cooperation and Development (OECD) developed a financial literacy test that includes questions about financial concepts and behaviors. The test is used to measure the financial literacy of adults in OECD countries. In the most recent study conducted in 2015, the United States ranked 14th out of 18 countries.

A few surveys also measure financial literacy among adults in the United States. One is the Financial Literacy Survey from the National Foundation for Credit Counseling (NFCC). The NFCC's survey asks questions about basic financial concepts, such as credit and debt. The most recent survey was conducted in 2021 and found that only 56% of adults could answer five out of eight questions correctly.

Another survey is the Financial Capability Survey from the Financial Industry Regulatory Authority (FINRA). FINRA's survey asks questions about financial behaviors, such as savings and investment. The most recent survey was conducted in 2021 and found that only 38% of adults had saved for retirement.

While these surveys provide some insight into the financial literacy of adults in the United States, they don't paint a complete picture. That's because financial literacy is a complex issue, and there isn't a single, definitive way to measure it.

What are the three main components of financial literacy?

Financial literacy has three main components: money management, saving and investing, and credit and debt.

Money management is all about learning how to budget your money and make responsible choices with your spending. This includes things like creating a budget, tracking your expenses, and understanding your net worth.

Saving and investing are all about putting your money away for the future. This includes things like setting financial goals, saving for retirement, and investing in stocks, bonds, and other assets.

Credit and debt are about understanding how to use credit responsibly and pay off any debt you may have. This includes things like understanding interest rates, knowing your credit score, pulling your credit report, and making a plan to pay off your debt.

Where does the US rank in financial literacy?

The United States ranks 14th in financial literacy among developed countries, according to the Organization for Economic Cooperation and Development (OECD). This means that there are 13 other developed countries where citizens are more financially literate than Americans.

This is a problem because financial literacy is an important tool that can help people make informed choices about their money and build a solid foundation for their financial future. A lack of financial literacy can lead to bad decision-making that can have long-term consequences.

Why does the US rank so low in financial literacy?

There are several reasons why the US ranks so low in financial literacy. One reason is that financial skills are not taught in most schools. Only 17 states require high school students to take a personal finance course.

Another reason is that there is a lot of misinformation about personal finance. With so many “get rich quick” schemes and conflicting advice, it can be hard to know who to trust. This can make it difficult for people to separate fact from fiction and make sound financial decisions.

Which states in the US require financial literacy?

As of 2019, only 17 states in the US require high school students to take a personal finance course. These states are Alabama, Arkansas, Colorado, Florida, Georgia, Idaho, Indiana, Kentucky, Louisiana, Mississippi, Missouri, Montana, Nevada, North Carolina, Oklahoma, Pennsylvania, and Tennessee.

Although financial literacy is not required in most schools, it is an essential skill that can help people make informed choices about their money and build a solid foundation for their financial future. We hope that more states get on board!

Tips for Improving Your Financial Literacy 

Here are a few tips for improving your financial literacy:

Read books or articles on personal finance topics like budgeting, investing, and retirement planning. 

There are plenty of great resources; you must take the time to find them. An excellent place to start is right here on this blog. Also, check out your local bookstores or library.

Attend a financial literacy seminar or workshop.

These can be a great way to learn about personal finance in a short amount of time. You can often find seminars and workshops offered by local organizations, financial institutions, or even employers. Money Talk With Tiff runs seminars and workshops occasionally.

Talk to someone who is financially literate and ask for advice. 

This could be a friend, family member, financial advisor, or anyone you trust. Just be sure to get multiple perspectives to make an informed decision.

Use budgeting apps or software to help you keep track of your spending and save money. 

This can be a great way to stay organized and motivated as you work toward your financial goals. Some popular options include Mint, You Need a Budget (YNAB), and EveryDollar.

Take advantage of free online resources like Khan Academy's Finance Course or The Balance's Personal Finance Course. 

These courses can teach you everything from the basics of investing to more advanced concepts like portfolio theory and risk management. I also have a course which you can find here.

Seek professional help if you need it. 

If you're struggling with debt or other financial problems, don't be afraid to seek help from a qualified professional such as an Accredited Financial Counselor (like me) or credit counselor.

Conclusion

Financial literacy is an important skill that can help you make informed choices about your money and build a solid foundation for your financial future. If you want to improve your financial literacy, several great resources are available to help you get started. Just remember to take things at your own pace and seek professional help if you need it. Take some time to educate yourself on personal finance so that you can take control of your finances and reach your financial goals, whatever they may be!

Do you have any tips for improving financial literacy? Please share them in the comments below!