Student loans, indebtedness, and financial literacy in the United States
Annamaria Lusardi (@A_Lusardi), Denit Trust Chair of Economics and Accountancy at the George Washington University School of Business; Founder and Academic Director of the Global Financial Literacy Excellence Center (GFLEC) and chair of the OECD/International Network on Financial Education Research Committee. She is also the academic advisor of the National Financial Capability Study which measures financial literacy in the United States.
The release of new data focused on Americans’ financial capability not only offers important insights and suggests additional areas for financial education, but it also points to opportunities for the financial sector, regulators, and others.
The 2016 edition of the National Financial Capability Study (NFCS) presents the results of the third wave of data collection since the study was first released in 2009. It provides new information while helping us to understand the changes that have occurred over this time.
The latest data show that Americans’ personal finances have been improving slowly but surely. For example, only 35% of Americans had precautionary savings in 2009, compared to nearly half (46%) of people six years later. However, the gains have not extended to everyone. More than one in three Americans state they would not be able to come up with 2,000 USD in one month if an unexpected need arose. The financially vulnerable include in particular, millennials, women, and individuals with lower income and educational attainment.
The latest findings also draw attention to three areas of great importance to Americans’ personal finances: student loans, indebtedness, and financial literacy. These areas are also highlighted in the work carried out by the OECD/INFE on financial literacy.
New questions added to the most recent NFCS survey expand our understanding of what is happening with student loans. For starters, educational loans have become commonplace. Nearly half (45%) of people aged 18-34 have a student loan for themselves or family members, as do more than a quarter of individuals aged 35-54. Despite this preponderance, the latest data show that —remarkably—borrowers fail to understand what they have taken on.
For example, about one in five respondents do not know the terms of their loans, such as whether monthly payments are determined by income. And the majority (54%) did not calculate the monthly payments when obtaining their most recent loans.
But ignorance is not bliss. According to the new data, 48% of student loan holders fear they will be unable to pay off that debt. If given the chance to do it all over again, a whopping 53% of loan holders would handle it differently. This demonstrates a clear need for advisory services and/or new tools to help people make decisions about student loans.
Data from NFCS have shown that individuals do not make sound decisions nor do they consider important factors when they take on debt. Building on this, a new question was added in 2012 to ask whether respondents have too much debt; the question was repeated in 2015. What emerges is striking. As many as 40% of respondents in 2015 agree or strongly agree they carry too much debt. Irrespective of the overall improvement in the economy, this proportion has changed little in the last three years.
Interestingly, over-indebtedness cuts across income, education, and age. While 43% of those with annual income below $25,000 feel burdened by debt, so do more than one third of those making $75,000 or more. At the same time, even though wealth accumulation should peak later in the life cycle and close to retirement, nearly 30% of those aged 55 and older report having too much debt.
The data also show that people tap many sources of high-interest debt, including credit cards, payday loans, and auto title loans. Again, these findings suggest there are business and policy opportunities for helping people make better decisions about debt.
A new question in the latest survey measures knowledge of interest compounding in the context of debt. What it reveals could explain why people are over indebted: only 33% of respondents know that it takes less than five years for debt to double if one borrows at a 20% interest rate.
More broadly, the latest NFCS data show that financial knowledge, as measured by a set of five questions that have been kept constant across waves, has not improved. If anything, it has declined slightly since the 2009 survey. This is not very surprising: Without robust initiatives to boost financial knowledge, we are unlikely to see gains. To improve financial literacy, we need to step up the effort, starting with both schools and the workplace.
Similar findings emerged from the OECD PISA international assessment of financial literacy which shows that around one in seven students in the 13 OECD countries and economies that took part in the test were unable to make simple decisions about everyday spending, and only one in ten could solve complex financial tasks. The OECD/INFE International Survey of Adult Financial Literacy Competencies, released in October 2016 at the NZ-OECD Global Symposium on Financial Education, further shows that, on average across the 30 countries and economies covered in the survey, 20% of all respondents borrowed to make ends meet. In this respect, the OECD/INFE Core Competency Framework on Financial Literacy for Adults may help to address these issues as well as provide guidance to relevant stakeholders and policy makers.
The NFCS and OECD/INFE survey findings show that for businesses, policy makers, nonprofits, and others interested in advancing individuals’ financial capability, the need for new programmes, policies, and services is great—and the field for developing them is wide open.
Scholars are also positioned to take on a critical role. I vividly remember my work on the report for the first wave of the NFCS, which was jointly released on Dec. 15, 2009, by Treasury Secretary Timothy Geithner and Secretary of Education Arne Duncan in the Cash Room of the U.S. Treasury building. Someone said we were laying the first brick to construct policies and programmes to advance financial capability. Any time I work with these data I am reminded of that—and the important contribution that research can make.
 This study was commissioned by the FINRA Foundation in consultation with the U.S. Department of the Treasury and the President’s Advisory Council on Financial Literacy. It was launched in July 2016 at an event co-organised by the Global Financial Literacy Excellence Center (GFLEC) and the FINRA Investor Education Foundation. The roster of high-profile speakers at the event underscored the far-reaching interest in the results. Participants included FINRA President and CEO, Richard Ketchum; Securities and Exchange Commission Chair, Mary Joe White; the Director of the Consumer Financial Protection Bureau, Richard Cordray; the Deputy Secretary of the Department of the Treasury, Sara Bloom Raskin; and Canada’s Financial Literacy Leader, Jane Rooney.