Financial Capability

Background

Financial capability is defined as the ability to make informed decisions about the use and management of money. The goal is to empower individuals with the knowledge, skills, and tools to help them manage their finances with the goal of enhancing long-term financial well-being.

Today individuals have greater responsibility for financial decisionmaking. Poor credit management may result in higher costs and can affect credit history for years to come. Poor investment decisions regarding retirement plans, such as low contribution rates and inappropriate asset allocation, may have profound effects on a retiree’s financial well-being and independence.

Financial capability is generally lower among people with low incomes, young people, and members of racial and ethnic groups that have experienced discrimination. People who are unbanked or underbanked may rely on more expensive alternative financial services (e.g., payday lenders and check-cashing outlets), which seldom provide savings accounts and related money-management services that are key to building wealth for retirement.

As the population ages, the number of people with Alzheimer’s disease and other forms of dementia is projected to increase. This will affect the financial capability of those who are afflicted. Even absent dementia, research has shown that an individual’s capability to make financial decisions declines with age. Other factors can affect financial decisionmaking capability as well. Emotional shocks, such as loss of a spouse, can greatly affect people’s ability to make clear decisions. Economic shocks, such as job loss and prolonged unemployment, can also affect decisionmaking.

Financial capability programs in the US are growing. Providers include federal and state government agencies, financial institutions, employers, the military, state cooperative extension services, community colleges, faith-based groups, and community-based organizations. Programs vary greatly in content, audience, and goals. It is difficult to measure the effectiveness of these programs in increasing knowledge and, more importantly, increasing sound financial behaviors. However, the Federal Reserve Board has found that increased knowledge may lead to improvements in financial management.

Some states have enacted legislation to promote consumer financial capability. These laws focus on requirements related to academic performance prior to high school graduation or establish statewide interdepartmental councils to assess state resources and existing programs.

Financial Capability: Policy

Program development and target audience

In this policy: FederalState

Financial capability initiatives should focus on increasing the financial capability of all people. Special efforts should target students, people in midlife and older adults, people born outside the US, and people with cultural, language, and other barriers that make it more difficult to use the traditional financial services system.

Financial capability initiatives should use behavioral economics and other fields to increase their effectiveness.

Understanding financial documents

In this policy: FederalState

The clarity and accuracy of product information and legal and disclosure documents should be improved to help consumers understand and compare products.

Financial capability could be improved by the development of a financial facts box that provides an overview of benefits, risk, and expenses to accompany all financial products and services.

Fraud and financial abuse

In this policy: FederalState

Financial capability programs should include information on financial fraud and abuse issues for all consumers, as well as on technological advances (such as online banking) that may be of particular value to older consumers.

Financial services companies should make their products and services age-friendly.

Development of research tools

In this policy: FederalState

Research tools that accurately measure the effectiveness of financial capability programs, specifically through behavioral outcomes, should be developed. Other issues to assess include the programs’ impact, sustainability, content, location, delivery method, and audience.

Coordination of state programs

In this policy: FederalState

Federal and statewide interagency councils should be established to coordinate existing efforts to increase financial capability in the states. Councils should include representatives from the financial services industry, consumer groups, and government agencies that represent older people.