 Q. 1: Suppose you have Rs 100 in a savings account and the interest rate is 3.50 per cent a year. How much would you have if you leave the money there to grow for five years—more than Rs 103.50, exactly Rs 103.50 or less than Rs 103.50?
Q. 2: Imagine that the interest rate on your savings account is 3.50 per cent a year and inflation is 4 per cent per year. After one year, would you be able to buy more than, exactly the same as, or less than today with the money in this account?
Q. 3: “Buying a single company stock usually provides a safer return than a stock mutual fund.” Is this statement true or false?
Correct answers (which are somewhere in this piece, so you’ll have to read through it all!) to the above questions will determine whether you are past the lowest threshold level of financial literacy. Adapted to the Indian situation from the work of Annamaria Lusardi, Professor of Economics at Dartmouth College, US, these questions were designed to test financial literacy in the US. Studies have found a link between financial literacy levels and the ability to manage money.
Over the past 30 years individuals have had to become increasingly responsible for their own financial security following retirement .The shift from defined benefit (DB) to defined contribution (DC) plans has meant that workers today have to decide both how much they need to save for retirement and have to allocate pension wealth. Furthermore, financial instruments have become increasingly complex and individuals are presented with new and ever-more sophisticated financial products. Access to credit is easier than ever before and opportunities to borrow are plentiful. But are individuals well equipped to make financial decisions. In other words, do they possess adequate financial literacy to do so?
Financial literacy will soon be the buzz word in India, where financial product manufacturers, regulators and stock exchanges have identified lack of financial knowledge as a key road block in the conversion of savings to investment or the movement of funds from bank deposit to equity linked products.
Note that, as with reading and writing, the objective of any policy designed to promote
Financial literacy should be basic knowledge. While it may not be feasible to transform
Financially illiterate people into sophisticated investors, it may be possible to teach them a few
Principles about the basics of saving and investing. Moreover, as illiteracy was not eradicated
With a handful of lessons or in a matter of months, so financially illiteracy cannot be eradicated
With small interventions. Given the current low levels of financial literacy, employers and the government should devise and encourage programs that simplify financial decision-making as well as provide sources of reliable financial advice. One way to reduce the barriers that individuals face when making saving decisions is to simplify their planning process.
The questions above test the minimal knowledge of a person. While the first question tests your knowledge of compounding, the second tests the awareness that inflation is a risk and the third tries to gauge whether you understand benefits of diversification. The answers are more than 103.50, less than today and false. How did you do on this test?
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