Financial literacy may be defined as having the knowledge and skills to handle financial matters. Financially literate persons handle cash, credit, and other financial resources responsibly. However, many people have never developed the skills necessary to manage their financial resources.
The need for financial literacy
Many young people find themselves in mountains of debt before they graduate from college because of credit cards. Being able to buy on credit while paying a few dollars a month toward the balance might seem like an easy way to have it all when cash is limited. However, a buy now, pay later approach is what causes many people both young and not-so-young, to become overwhelmed with debt. In many cases, individuals accrue so much debt that they cannot pay. Defaulting on credit cards and loans not only hurts one’s credit score–it impacts the ability to get a job, purchase a car, or purchase a home. Individuals who develop financial literacy have the skills to avoid these mistakes by making informed decisions about how they spend money.
Individuals should develop financial literacy early
It’s never too early to help young people develop financial literacy. Parents who give their children allowances for doing chores can teach the importance of working to earn money. Teaching a child to pay him or herself first by saving money is the beginning of basic financial literacy. In middle school and high school, students can develop financial literacy through simulations where they are given a specific budget and must figure out how to pay for shelter, transportation, groceries, insurance, emergency car repairs, and other living expenses. For most participants, this type of activity is an eye-opener when they realize that they might need to forgo that prized smartphone to purchase a battery for a car.
What individuals need to know to make informed financial decisions
Anyone who is at risk of making poor financial decisions can benefit from financial literacy education in the following areas:
- How to make a budget and stick to it
- How to avoid credit traps
- How credit interest works
- Saving and investing
- Understanding your credit report
Education to help individuals develop financial literacy works. It would be valuable if all students were required to participate in at least a short course on managing personal finances before graduating from high school. Research shows that high school students exposed to financial literacy education do a better job of managing their financial resources later in life.