Financial Literacy: Get ahead or fall behind

Why do people with similar incomes and education levels end up with vastly different financial outcomes? 

In this episode — wrapping up Season 1 of Econ To Go — Neale Mahoney sits down with Stanford economist Annamaria Lusardi to explore what people actually understand about money, and why financial literacy has become an essential skill in today’s increasingly complex economy. A pioneer in the field, Lusardi explains how gaps in financial knowledge shape everything from day-to-day decisions to long-term wealth and how early exposure, education and regulation make a difference.

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Follow along as the conversation explores several key themes, including:

• (01:27) Why financial literacy is a must-have in today’s economy
• (04:09) Education vs. regulation: who is responsible for protecting consumers
• (08:45) Why personal finance is deeply personal
• (12:04) A 7-step financial health checkup
• (21:13) Where consumers are most at risk

Lusardi is a leading expert on financial literacy. She is the Director of the Initiative for Financial Decision-Making at Stanford and a senior fellow at the Stanford Institute for Economic Policy Research. Her work — in both the academic and global policy arena — focuses on how financial education can improve economic outcomes. To learn more about Lusardi and her research, visit the IFDM website or explore these links:

• Financial health checkup
• PISA 2012 Results: Students and Money | OECD
• Dollars and sense: The case for teaching personal finance
• The economic importance of financial literacy: Theory and evidence

Econ To Go brings Stanford economics into your everyday life — served with a side of coffee. Hosted by economist and director of the Stanford Institute for Economic Policy Research (SIEPR), Neale Mahoney, the show takes you on a walk across campus with leading thinkers as they unpack the ideas shaping our economy, public policy, and daily lives. Smart, curious, and conversational — it’s Stanford economics, to go. 
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Transcript

Season 1, Episode 8

Neale Mahoney: In today's economy, many of the most important financial decisions we make happen well before we realize the consequences, how much we save, how we manage debt, whether we invest, and which route to take. And yet around the world, financial literacy remains surprisingly low. Studies consistently find that only one-third of adults can explain basic concepts like interest rates, inflation, and diversification.

Annamaria Lusardi: When you look at the data, you see that people are very similar, for example, in term of characteristics, of economic circumstances, but yet, they would get at retirement with vastly different amount of wealth. And I always thought, "There is something more, or there is something that is missing in this model we are considering. How can somebody have the same income, the same education level, but then be so different throughout life?"

Neale Mahoney: I'm Neale Mahoney, Economist and Director of the Stanford Institute for Economic Policy Research. And on this episode of "Econ To Go," I sit down with Stanford Professor Annamaria Lusardi here on campus. She spent decades studying financial literacy, how people learn it, why it matters, and how better financial education can help people navigate everything from student loans to retirement planning, because in a world of increasingly complex financial products, understanding money isn't just useful, it's essential. A lot of people, I think, still view financial literacy as a nice-to-have, not a must-have. Like some of the other core topics in economics and in the social sciences. I assume you disagree. Why?

Annamaria Lusardi: I strongly disagree, first of all, because I think the world has changed so much that everybody needs this skill. And this has exactly to do with, you know, what we are seeing in other cases, you know, in the education itself, right? As the world became more and more complex, right, we require more and more education, right? At the beginning, the required education was only elementary education, and now we made it compulsory to have at least a high school education. I think it's the same for this topic. If you are not financially literate, if you don't understand the basics of finance, you are basically excluded from the world. You are not able to, first of all, understand the world around you, but in particular, taking advantage of what the financial world around you can offer.

Neale Mahoney: And so, you can, you know, get training, residency, fellowship, become an incredible surgeon, but if you don't know how to keep your financial house in order, that human capital won't have the same payoff as it would if you knew how to invest your money, how to plan for retirement, how to insure yourself against risks, and so it's an important complement to all of the other skills you make.

Annamaria Lusardi: Absolutely, and I love the framing as a human capital development, right? It's basically something that, you know, you acquire and can really give an important payoff over time, and I'm not the only one to say that. In particular, the OECD, for example, started this important project, PISA, the Program for International Student Assessment, measuring the skills that young people need to have today in order to participate to society. And already in 2012, so many years ago, they added financial literacy to that set of skills because it's essential for a young person to have this knowledge. And it's particularly important today, given the changes we observe in the economy, we observe in our world. So, you know, the 2012 report they wrote was "Financial Literacy, An Essential Skill for the 21st Century." And I think, you know, if there is a title or a report I would like everybody to read is exactly that one.

Neale Mahoney: When a new financial product enters the market, "buy now, pay later," crypto, stablecoin, what are the roles of financial education versus regulation in terms of providing the information, the protection that consumers need?

Annamaria Lusardi: A lot of people always ask me whether, you know, financial education is more important than regulation, or what is the role? And I think we should never say this or that. I think they are both important, right? It's not that we can put so much responsibility into the shoulder of individual and, you know, having them make financial decision. It can be very complex in particular with respect to a new product. So, when a new product comes in, I think it's very important for the regulator to understand whether it hurts or help consumers. And so, education is, I think, a very important complement to regulation. They should work together. It's not only education or only regulation. And if you have regulation only without education, I actually think you probably, you know, are going to see a lot more problems, because at the end, people have to understand what they engage into or what they buy or what they use.

Neale Mahoney: Is there an example where the regulation and financial education work in concert, work well together, or something that can guide us?

Annamaria Lusardi: I remember, for example, when we look at the credit cards and when, you know, previous regulation thought, "Why don't credit card, for example, report a minimum payment you have to make, right, in order to pay off your credit card in a certain amount of time, on how to simplify that information so that consumer, when they get the credit card, can actually get a good prospect for them to make decisions?" I think that's a good example of a good regulation, right? Provide good information and make also that information available. And education, I think, can complement that because people have to understand how credit card work, right? And they have to still make good decisions.

Neale Mahoney: With financial education, you can then do disclosure regulation and give people the information that then they can process within, you know, the frameworks that they've learned-

Annamaria Lusardi: Absolutely.

Neale Mahoney: From financial education.

Annamaria Lusardi: Otherwise, you have to go much, much simpler and some time, right? It's also very difficult to do that. So, I think, you know, regulation and education, I think overall, if they can work together, I think they are going to be much more powerful.

Neale Mahoney: And what's the role of the workplace in providing financial education to employees?

Annamaria Lusardi: I think it's an essential role. When you look at the adult population, right? Where are they? They are at work, and so that's an important place where to provide education. Also, I think it's in the interest of the employer to provide that education. One of the statistics we find in our work with the TIAA Institute and the Personal Finance Index, we found that people spend an average of four to five hours per week at work dealing with their financial problems and decisions, and those with low financial literacy even more. So, again, you know, if you multiply this by the wage, I think we can think of many programs which are more cost effective than having, you know, your employee worried about their finances, and so there is also an incentive from the employer to actually have, you know, their employee be financially secure, be more financially resilient, and be also better prepared, both for shock and also for retirement.

Neale Mahoney: There's been a movement for workplace wellness programs trying to improve the physical health of employees so that they're less likely to be sick and have disabilities and healthcare cost. And this is, like, very similar in that-

Annamaria Lusardi: It is very similar.

Neale Mahoney: Trying to improve their financial health, so they-

Annamaria Lusardi: It is financial health. I have to say, we have done many of these studies ourself, and also, we have done some program ourself at the workplace education, interestingly in our own institutions, so we did actually program at Dartmouth College and at GW as well. And in our evaluation, these program are cost effective, not just effective per se, not just they improve some of the financial decisions, but they are also cost effective. And so, I actually think these are important initiative to pursue.

Neale Mahoney: Financial topics can often seem intimidating or technical, but you've said they're actually deeply personal. How do you get people to that personal connection?

Annamaria Lusardi: So, first of all, I always say personal finance is personal, and I use that in my class a lot, and I try to make concepts simpler and more engaging via storytelling. So, now, I always start my course by telling several story, including my own story, and why, by the way, I am statistically the least likely person to be an expert in personal finance.

Neale Mahoney: Why are you statistically the least likely person to be an expert in personal finance?

Annamaria Lusardi: Because I have three characteristics that prevent me from being, in a sense, financially literate. First of all, I am a woman, and there is a gender difference in financial literacy, interestingly, in every country around the world. I am Italian, and so Italian are one of the countries with the lowest level of financial literacy. And I am an older woman. I am older than 60, even though probably I hope it doesn't show. So, all of these characteristics make me the least likely to be a financially literate person, but I always say statistics is not our destiny.

Neale Mahoney: Yeah.

Annamaria Lusardi: And, you know, we can change it with education.

Neale Mahoney: Annamaria argues that financial literacy isn't just an economic skill. It's something that often starts with personal experience. Over coffee, she tells me how conversations around her family's dinner table shaped the way she thinks about money today.

Annamaria Lusardi: So, my parents talk to us a lot about money. My parents are both entrepreneurs. They have three daughters. And they found, you know, at the dinner table, they found it very natural to talk about money. And we talked a lot often about some of the decision they made when they bought, for example, their house. They discussed this briefly with us. And I thought that had an incredibly important part in my life because I always thought that money was interesting, was something to consider, was something useful to, you know, be knowledgeable about.

Neale Mahoney: Was there a moment where you realized that not everybody grew up with that sort of financial education around the kitchen table?

Annamaria Lusardi: The moment I realized that is when I actually did a study looking at the young people, which were 23 to 28 years old. First of all, I was very surprised to see how little this generation knows. Everybody thinks that, you know, young people which are young professional, in particularly with high level of education, would be financially literate, and according to our statistics, they are not. But we also had the panel data set, and we could link their financial literacy to their own knowledge and the knowledge of their parents when they were teenagers and growing up. And we saw that people who are financially literate 10 years later are those who were discussing this topic at the dinner table when they were teenagers. So, it seems that some of my experience as well was reflected in the data and the experience of other young people.

Neale Mahoney: You've compared financial literacy to health in that it's something that you should check in on periodically. What does a financial health checkup look like?

Annamaria Lusardi: We design a very simple checkup, only kind of seven concept. You know, it's like seven step to financial success, something like that. It's always seven, right? So, the first one is, do you know the basics? Do you have the knowledge of this fundamental concept in personal finance? Do you know the power of interest compounding? Do you know inflation? Do you know about risk and risk diversification? If people know that, I think, you know, they are already on a good path to make good financial decisions.

Neale Mahoney: Step one is you know these three basic principles of financial decision making.

Annamaria Lusardi: Mm-hmm.

Neale Mahoney: Step two.

Annamaria Lusardi: Step two is, do you have a budget, right? The budget is important because we have so many incentive to spend, right? I tell my student, "By the time you go back to your room, you'll have five opportunity to spend today, but not many opportunity to save, right?" So we need to keep control of our spending and we need to have a plan for, you know, how we allocate our income and also a plan to grow our wealth.

Neale Mahoney: Number two is a budget. What's number three?

Annamaria Lusardi: Number three, do you have control of your debt, right? Debt is very important. And if you carry credit card debt, right, then, you know, you are normally charged relatively high interest rate, and so this debt can quickly escalate into high amount. And we know, for example, young people, but everybody, you know, now today have a lot of debt from student loan to mortgages to auto loans, and so on. You know, is your debt under control? That's an important piece in our checkup. Continuing on that, are you maximizing your credit score, right? This is very important because, you know, the interest rate you're going to be charged depends on the credit score.

Neale Mahoney: So it feeds through into your interest rates, into your credit limits, into access to credit.

Annamaria Lusardi: Yeah, yeah. I tell my student-

Neale Mahoney: How?

Annamaria Lusardi: "It's your financial GPA. Try to get as high a financial GPA as possible."

Neale Mahoney: Except one without as much great inflation, so.

Annamaria Lusardi: Right, exactly. You know, it tells us a lot about how you are managing your debt, and are you paying on time, are you paying in full? Are you keeping your credit utilization under a certain limit? You know, the credit score is critically important for the interest rate you are going to be charged, so that's a good way also to pay, in a sense, the lowest in debt management.

Neale Mahoney: Monitor and to optimize your credit score.

Annamaria Lusardi: Yeah. The next one, are you investing to maximize your wealth? I always tell everybody, you have got to learn how to invest. Now, the entering amount for investing in the market, it's very low, you know, with fractional shares and also, you know, with $50, you can invest for the long term, and you know, this is something important to do if you want to grow your wealth.

Neale Mahoney: And what's the next one?

Annamaria Lusardi: So, the next one is, are you taking advantage of tax-favor asset and employer matches? In addition to financial markets, both the government and the employer are having incentives for you to save, in particularly for the long term. Are you taking advantage of that? You know, you can save a lot of taxes if you, for example, invest in an IRA, in a Roth IRA, in a 401 . You know, these are substantial benefits that the government offer you to save for the future or to save for your child education with a 529 and other similar asset. The employer often offer a match. You know, if you don't take advantage of this match-

Neale Mahoney: And like a one-to-one match, so doubling the money-

Annamaria Lusardi: It's a one-to-one, yeah. You know, no financial-

Neale Mahoney: That you invest in.

Annamaria Lusardi: You know, instrument is able to offer this very high return. You are leaving money on the table if you don't take advantage of that. And by the way, look for employers that have these good benefits in order to grow your wealth, so very important to do that. And then seven is, are you planning for the future?

Neale Mahoney: Mmm.

Annamaria Lusardi: And the future being potentially even the short term. You know, for example, are you setting aside a stock of precautionary savings so that, you know, you are able to face shocks, but also, are you preparing for planned event, for example, you know, if you want to buy a house, a car in the future, if you want to take time off, or for your retirement.

Neale Mahoney: Mm-hmm.

Annamaria Lusardi: We see that people who plan end up at retirement with vastly different amount of wealth than those who do not plan. So, this act of planning really changes what you do. You probably are spending less on certain things. You are probably more aware of what it takes, you know, to reach certain objective and taking more step for that. So, you know, I think, again, if you want to do well, you know, like some planning can really do a lot.

Neale Mahoney: Yeah, because if you plan for a rainy day rather than borrow on a credit card, right, it's gonna be much cheaper if you save for down payment rather than take out a larger mortgage. Your interest rate is gonna be much lower, and so that planning is, I guess you said, the last but not least sort of step in this financial checkup.

Annamaria Lusardi: Yeah, this planning gives rise to all of these other good behavior that you have mentioned and probably also you're probably starting to save earlier, right? And so, the earlier you save, the more you can take advantage of interest compounding. And it's also easier to save, you know, smaller amount than bigger amount when you are, let's say, 10 to 15 years away for retirement. So, these are simple steps, by the way, that everybody can take, and if we do that, I think we can all do better. We can all, I think, be healthier, financially speaking, and we can, in a sense, achieve, you know, financial resilience and financial security, so a good financial health.

Neale Mahoney: You know, the point that you made is sort of a little bit of knowledge can go a long way, right? We all know people who get into the weeds of optimizing credit card points and retirement savings. You don't have to go that far to do a lot of good for yourself, right?

Annamaria Lusardi: Absolutely.

Neale Mahoney: You can just take some simple steps and get 90% of the way there. Not leave money on the table, hold a diversified portfolio, save for the future, manage your debt. And I think that's a really key takeaway.

Annamaria Lusardi: Absolutely.

Neale Mahoney: It's like you don't have to be a financial whiz.

Annamaria Lusardi: Absolutely. No, you don't have to be a financial expert.

Neale Mahoney: Like literacy, it's important and it's also achievable, seven steps that, you know, may not turn you into Warren Buffett, but can put your financial house in order.

Annamaria Lusardi: Exactly, and that's what we want to do. We don't go to the doctor, you know, because we want to run a marathon or because we want to be an athlete, but because we want to lead a good life, and it's the same for financial health. You know, we want to be financially resilient and financially secure so we can do what we would like to do with our financial resources.

Neale Mahoney: Research shows that small financial decisions can have big long-term consequences, but those decisions are shaped by a misunderstanding about how money and investing actually work. So, at the cafe, I ask Annamaria about the most common misconceptions she sees.

Annamaria Lusardi: I think there are so many misconception about money. For example, a lot of people thinks that, you know, managing money is just for the rich, right? And that others shouldn't, you know, pay attention to money because, you know, they don't have money to manage a week to start with. So, you know, that's, I think, a first misconception. Everybody should take care of their financial health. The second things is that investing is like gambling, right, is a game, and also that people should pick individual stocks. That's how people invest and, you know, that's the way to get rich, while the academic research says just invest in stock index fund, invest in the market with very low cost. But most importantly, I think, you know, probably not taking care of your financing, you know. Also thinking that something very complex, first of all, and that you are not able to do, and that is something that only the rich do, I think is probably the most important misconception we need to fight.

Neale Mahoney: Are there particular areas of the financial marketplace where you think consumers are especially at risk today?

Annamaria Lusardi: We see that people are particularly at risk, actually, this is almost a play in words, with investing and risk and risk management. These are the topics that people know the least, and I see this continuously, I think, in the interaction with my student or even in the interaction with friends. You know, if you ask people what they know the least is investing. And today, with so many new financial instrument at your disposal, you know, you could indeed be at risk of making poor financial decisions. You know, one of the, of course, topic that we can think about is crypto, right? So, for example, our undergraduate student are very interested in that, but you know, when you try to understand how much they know about them, they know very little, yet they are very eager to invest in something they do not know, right? Buy now, pay later. It's so easy now to buy and just pay later, right? "Buy now, pay now" might be, you know, a good rule to follow. And now, we have access. For example, now, even in your retirement, you know, you might have an opportunity to invest, let's say, in private equity, right? Do you know that? You know, do you know the risk involved with that? There are indeed, you know, several areas in which, or anytime we have, you know, new option, a new financial instrument, we need to think a little bit more about, do people understand, you know, the opportunities that this instrument bring, including the risk that this instrument, you know, might bring?

Neale Mahoney: The literature has, you know, always pointed to sort of holding a well-diversified index fund and minimizing fees. Is that your reading of the literature still today?

Annamaria Lusardi: Yes, so first of all, you know, one of the things I always, always characterize a lot and, you know, emphasize a lot in my course is that people don't have to pick individual stocks, even though I think a lot of people think that investing is that, right? And also, people, I think, are really enamored with their own company on top of this, right? So, you know, risk diversification, I think, is something that people do not either, you know, appreciate as much or perhaps do not grasp so well, and that, I think, the academic literature is very clear, right, that the best way to invest is to be well diversified, so buy mutual funds or ETF, and to try to keep the cost as low as possible, the fees as low as possible.

Neale Mahoney: Do you think regulators have underestimated how quickly the exploding complexity can outpace consumers' understanding?

Annamaria Lusardi: It's hard to say. I mean, clearly, it's a world that's changing very quickly. You know, we see a lot of financial innovation, and I think not just in the asset side, but also on the debt side, and so, you know, it's hard to keep track and it's hard to keep, you know, attention to this. But I think regulator have an important job to do in making sure that the financial system works for everyone and also that the instruments that are offered are really providing good opportunity for consumers and not only for the financial industry.

Neale Mahoney: So, if you're writing a syllabus for your financial literacy course today, what's one thing that you would include on the syllabus now that you might not have included a decade ago?

Annamaria Lusardi: I know that now with the higher cost of education and also with the prospect, the job market being more difficult and so on, I think I don't want young people to be discouraged by thinking of this very important investment, which is investment in education. People always say many of the jobs in the future have not been invented yet, right? But in this very complex world, I am actually convinced that you need skills and knowledge. You need, you know, maybe different skills and also skills that makes you able to be adaptable-

Neale Mahoney: Yeah.

Annamaria Lusardi: Makes you able to reason, it makes you able to really capture, in a sense, these new skills that are offered. But I am convinced that education can offer a very important rate of return, I would say sometime a lot higher than the financial market.

Neale Mahoney: Yeah, I once went to a lecture by Gary Becker who argued, "In an uncertain world, sort of a liberal arts education, which provides you with the flexibility, the agility for, like, a job that doesn't exist yet is the best investment you can make."

Annamaria Lusardi: Absolutely, and I think a liberal art education at the undergraduate level can be a very important investment that you can do to better understand the world around you. You don't need to specialize early on, you know. That's maybe the time to really be able to have a critical mind and to acquire this capacity, right, to be flexible, to be resilient.

Neale Mahoney: Anna, it was amazing to have you on "Econ To Go." Thank you so much.

Annamaria Lusardi: Thank you very much.

Neale Mahoney: Financial decisions shape everything from how we manage debt to how we prepare for retirement, but making those decisions well requires knowledge that many people simply haven't been taught. And yet, as Annamaria makes clear, education alone isn't enough. Regulation needs to move with it, especially as new and more complex products enter the market. I wanna thank Annamaria Lusardi for joining me in this conversation, and you for listening. I'm Neale Mahoney, and "Econ To Go" is where we bring Stanford economics into your everyday life. If you enjoyed this episode, subscribe or follow wherever you get your podcast. We've got more smart, curious conversations coming your way from the Stanford University campus.