Financial Literacy Education in Schools: Advocating for Change

Financial literacy is a set of skills and knowledge that are necessary to make good decisions when it comes to one's money. It is comparable to learning how to play a complex sport. The same way athletes master the basics of their sport to be successful, individuals can build their financial future by understanding basic financial concepts.

In today's complex financial landscape, individuals are increasingly responsible for their own financial well-being. Financial decisions can have a lasting impact on your life, whether you're managing student loan debt or planning for retirement. A study by FINRA's Investor Education Foundation showed a positive correlation between high levels of financial literacy and financial behaviors, such as saving for an emergency and planning retirement.

It's important to remember that financial literacy does not guarantee financial success. Critics argue that focusing solely on individual financial education ignores systemic issues that contribute to financial inequality. Some researchers argue that financial educational programs are not very effective at changing people's behavior. They mention behavioral biases and complex financial products as challenges.

Another view is that the financial literacy curriculum should be enhanced by behavioral economics. This approach acknowledges that people do not always make rational decisions about money, even if they are well-informed. The use of behavioral economics strategies, like automatic enrollment into savings plans, has shown to improve financial outcomes.

The key takeaway is that financial literacy, while important for managing personal finances and navigating the economy in general, is just a small part of it. Financial outcomes can be influenced by systemic factors, personal circumstances, and behavioral traits.

The Fundamentals of Finance

Basic Financial Concepts

The fundamentals of finance form the backbone of financial literacy. These include understanding:

1. Income: Money received, typically from work or investments.

2. Expenses: Money spent on goods and services.

3. Assets are the things that you own and have value.

4. Liabilities can be defined as debts, financial obligations or liabilities.

5. Net Worth: The difference between your assets and liabilities.

6. Cash Flow is the total amount of cash that enters and leaves a business. This has a major impact on liquidity.

7. Compound Interest: Interest calculated using the initial principal plus the accumulated interest over the previous period.

Let's look deeper at some of these concepts.

The Income

You can earn income from a variety of sources.

• Earned Income: Salary, wages and bonuses

• Investment income: Dividends, interest, capital gains

• Passive income: Rental income, royalties, online businesses

Understanding different income sources is crucial for budgeting and tax planning. For example, earned income is typically taxed at a higher rate than long-term capital gains in many tax systems.

Liabilities vs. Liabilities

Assets are the things that you have and which generate income or value. Examples include:

• Real estate

• Stocks and bonds

• Savings Accounts

• Businesses

Financial obligations are called liabilities. They include:

• Mortgages

• Car loans

• Card debt

• Student loans

The relationship between assets and liabilities is a key factor in assessing financial health. Some financial theory suggests focusing on assets that provide income or value appreciation, while minimising liabilities. But it is important to know that not every debt is bad. A mortgage, for example, could be viewed as an investment in a real estate asset that will likely appreciate over the years.

Compound Interest

Compound interest is earning interest on interest. This leads to exponential growth with time. This concept has both positive and negative effects on individuals. It can boost investments, but if debts are not managed correctly it will cause them to grow rapidly.

For example, consider an investment of $1,000 at a 7% annual return:

• After 10 years, it would grow to $1,967

• After 20 years, it would grow to $3,870

• In 30 years it would have grown to $7.612

The long-term effect of compounding interest is shown here. But it is important to keep in mind that these examples are hypothetical and actual investment returns may vary and even include periods when losses occur.

Understanding these basics allows individuals to create a clearer picture of their financial situation, much like how knowing the score in a game helps in strategizing the next move.

Financial Planning Goal Setting

Financial planning is about setting financial objectives and creating strategies that will help you achieve them. This is similar to the training program of an athlete, which details all the steps necessary to achieve peak performance.

A financial plan includes the following elements:

1. Setting SMART Financial Goals (Specific, Measureable, Achievable and Relevant)

2. Creating a comprehensive budget

3. Develop strategies for saving and investing

4. Review and adjust the plan regularly

Setting SMART Financial Goals

Goal setting is guided by the acronym SMART, which is used in many different fields including finance.

• Specific: Goals that are well-defined and clear make it easier to reach them. For example, "Save money" is vague, while "Save $10,000" is specific.

• Measurable: You should be able to track your progress. In this instance, you can track how much money you have saved toward your $10,000 goal.

• Achievable Goals: They should be realistic, given your circumstances.

• Relevance: Your goals should be aligned with your values and broader life objectives.

• Set a deadline to help you stay motivated and focused. For example: "Save $10,000 over 2 years."

Budget Creation

A budget is an organized financial plan for tracking income and expenditures. Here is a brief overview of the budgeting procedure:

1. Track all sources of income

2. List your expenses, dividing them into two categories: fixed (e.g. rent), and variable (e.g. entertainment).

3. Compare income to expenditure

4. Analyze and adjust the results

One of the most popular budgeting guidelines is the 50/30/20 Rule, which recommends allocating:

• Use 50% of your income for basic necessities (housing food utilities)

• Enjoy 30% off on entertainment and dining out

• 20% for savings and debt repayment

It's important to remember that individual circumstances can vary greatly. Critics of such rules argue that they may not be realistic for many people, particularly those with low incomes or high costs of living.

Savings and Investment Concepts

Investing and saving are important components of most financial plans. Here are a few related concepts.

1. Emergency Fund (Emergency Savings): A fund to be used for unplanned expenses, such as unexpected medical bills or income disruptions.

2. Retirement Savings (Renunciation): Long-term investments for post-work lives, which may involve specific account types.

3. Short-term saving: For goals between 1-5years away, these are usually in easily accessible accounts.

4. Long-term Investments (LTI): For goals beyond 5 years, which often involve a diversified portfolio.

It's worth noting that opinions vary on how much to save for emergencies or retirement, and what constitutes an appropriate investment strategy. These decisions are based on the individual's circumstances, their risk tolerance and their financial goals.

Planning your finances can be compared to a route map. Financial planning involves understanding your starting point (current situation), destination (financial targets), and routes you can take to get there.

Diversification of Risk and Management of Risk

Understanding Financial Risks

Risk management in financial services involves identifying possible threats to an individual's finances and implementing strategies that mitigate those risks. This concept is similar to how athletes train to avoid injuries and ensure peak performance.

Financial risk management includes:

1. Identifying potential risk

2. Assessing risk tolerance

3. Implementing risk mitigation strategies

4. Diversifying Investments

Identifying Potential Hazards

Financial risks come from many different sources.

• Market risk: The potential for losing money because of factors which affect the performance of the financial marketplaces.

• Credit risk: Risk of loss due to a borrower not repaying a loan and/or failing contractual obligations.

• Inflation Risk: The risk of the purchasing power decreasing over time because of inflation.

• Liquidity risk is the risk of being unable to quickly sell an asset at a price that's fair.

• Personal risk is a term used to describe risks specific to an individual. For example, job loss and health issues.

Assessing Risk Tolerance

The risk tolerance of an individual is their ability and willingness endure fluctuations in investment value. The following factors can influence it:

• Age: Younger adults typically have more time for recovery from potential losses.

• Financial goals. Short-term financial goals require a conservative approach.

• Income stability: Stability in income can allow for greater risk taking.

• Personal comfort: Some people have a natural tendency to be more risk-averse.

Risk Mitigation Strategies

Some common risk mitigation strategies are:

1. Insurance protects you from significant financial losses. Included in this is health insurance, life, property, and disability insurance.

2. Emergency Fund: This fund provides a financial cushion to cover unexpected expenses and income losses.

3. Debt Management: By managing debt, you can reduce your financial vulnerability.

4. Continual Learning: Staying informed on financial matters will help you make better decisions.

Diversification: A Key Risk Management Strategy

Diversification is often described as "not placing all your eggs into one basket." The impact of poor performance on a single investment can be minimized by spreading investments over different asset classes and industries.

Consider diversification to be the defensive strategy of a soccer club. In order to build a strong team defense, teams don't depend on a single defender. Instead, they employ multiple players who play different positions. In the same way, diversifying your investment portfolio can protect you from financial losses.

Diversification types

1. Asset Class Diversification is the practice of spreading investments among stocks, bonds and real estate as well as other asset classes.

2. Sector Diversification: Investing in different sectors of the economy (e.g., technology, healthcare, finance).

3. Geographic Diversification means investing in different regions or countries.

4. Time Diversification Investing over time, rather than in one go (dollar cost averaging).

It's important to remember that diversification, while widely accepted as a principle of finance, does not protect against loss. All investments carry some level of risk, and it's possible for multiple asset classes to decline simultaneously, as seen during major economic crises.

Some critics argue that true diversification is difficult to achieve, especially for individual investors, due to the increasingly interconnected global economy. They say that during periods of market stress, the correlations between various assets can rise, reducing any benefits diversification may have.

Diversification is still a key principle of portfolio theory, and it's widely accepted as a way to manage risk in investments.

Investment Strategies and Asset Allocation

Investment strategies are designed to help guide the allocation of assets across different financial instruments. These strategies are similar to the training program of an athlete, which is carefully designed and tailored to maximize performance.

The key elements of investment strategies include

1. Asset allocation: Dividing investment among different asset classes

2. Portfolio diversification: Spreading assets across asset categories

3. Rebalancing and regular monitoring: Adjusting your portfolio over time

Asset Allocation

Asset allocation is the process of dividing your investments between different asset classes. The three main asset types are:

1. Stocks are ownership shares in a business. Stocks are generally considered to have higher returns, but also higher risks.

2. Bonds with Fixed Income: These bonds represent loans to government or corporate entities. In general, lower returns are offered with lower risk.

3. Cash and Cash equivalents: Includes savings accounts, money markets funds, and short term government bonds. Generally offer the lowest returns but the highest security.

A number of factors can impact the asset allocation decision, including:

• Risk tolerance

• Investment timeline

• Financial goals

It's worth noting that there's no one-size-fits-all approach to asset allocation. Although there are rules of thumb (such a subtracting your age by 100 or 110 in order to determine how much of your portfolio can be invested in stocks), they're generalizations, and not appropriate for everyone.

Portfolio Diversification

Within each asset type, diversification is possible.

• Stocks: This includes investing in companies of varying sizes (small-caps, midcaps, large-caps), sectors, and geo-regions.

• Bonds: You can vary the issuers, credit quality and maturity.

• Alternative investments: Many investors look at adding commodities, real estate or other alternative investments to their portfolios for diversification.

Investment Vehicles

These asset classes can be invested in a variety of ways:

1. Individual Stocks, Bonds: Provide direct ownership of securities but require additional research and management.

2. Mutual Funds: Professionally-managed portfolios of bonds, stocks or other securities.

3. Exchange-Traded Funds, or ETFs, are mutual funds that can be traded like stocks.

4. Index Funds - Mutual funds and ETFs which track specific market indices.

5. Real Estate Investment Trusts. (REITs). Allows investment in real property without directly owning the property.

Active vs. Active vs.

In the world of investment, there is an ongoing debate between active and passive investing.

• Active Investing: Involves trying to outperform the market by picking individual stocks or timing the market. It often requires more expertise, time, and higher fees.

• Passive investing: This involves buying and holding a portfolio of diversified stocks, usually through index funds. It's based on the idea that it's difficult to consistently outperform the market.

This debate is ongoing, with proponents on both sides. Active investing advocates claim that skilled managers are able to outperform the markets, while passive investing supporters point to studies that show that over the long-term, most actively managed funds do not perform as well as their benchmark indexes.

Regular Monitoring and Rebalancing

Over time certain investments can perform better. A portfolio will drift away from its intended allocation if these investments continue to do well. Rebalancing means adjusting your portfolio periodically to maintain the desired allocation of assets.

For example, if a target allocation is 60% stocks and 40% bonds, but after a strong year in the stock market the portfolio has shifted to 70% stocks and 30% bonds, rebalancing would involve selling some stocks and buying bonds to return to the target allocation.

Rebalancing is not always done annually. Some people rebalance only when allocations are above a certain level.

Think of asset allocating as a well-balanced diet for an athlete. Just as athletes need a mix of proteins, carbohydrates, and fats for optimal performance, an investment portfolio typically includes a mix of different assets to work towards financial goals while managing risk.

All investments come with risk, including possible loss of principal. Past performance does NOT guarantee future results.

Plan for Retirement and Long-Term Planning

Financial planning for the long-term involves strategies to ensure financial security through life. This includes estate and retirement planning, similar to an athlete’s career long-term plan. The goal is to be financially stable, even after their sports career has ended.

Long-term planning includes:

1. Understanding retirement accounts: Setting goals and estimating future expenses.

2. Estate planning: Planning for the transfer of assets following death. Wills, trusts, as well tax considerations.

3. Consider future healthcare costs and needs.

Retirement Planning

Retirement planning involves understanding how to save money for retirement. Here are a few key points:

1. Estimating Retirement Needs: Some financial theories suggest that retirees might need 70-80% of their pre-retirement income to maintain their standard of living in retirement. The generalization is not accurate and needs vary widely.

2. Retirement Accounts:

• 401(k) plans: Employer-sponsored retirement accounts. Often include employer-matching contributions.

• Individual Retirement Accounts (IRAs): Can be Traditional (potentially tax-deductible contributions, taxed withdrawals) or Roth (after-tax contributions, potentially tax-free withdrawals).

• Self-employed individuals have several retirement options, including SEP IRAs or Solo 401(k).

3. Social Security: A program of the government that provides benefits for retirement. It's important to understand how it works and the factors that can affect benefit amounts.

4. The 4% rule: A guideline that suggests retirees can withdraw 4% of their retirement portfolio the first year after retiring, and then adjust this amount each year for inflation, with a good chance of not losing their money. [...previous material remains unchanged ...]

5. The 4% rule: A guideline that suggests retirees can withdraw 4% of their retirement portfolio in their first year and adjust it for inflation every year. This will increase the likelihood that they won't outlive their money. This rule is controversial, as some financial experts argue that it could be too conservative or aggressive, depending on the market conditions and personal circumstances.

You should be aware that retirement planning involves a lot of variables. A number of factors, including inflation, healthcare costs, the market, and longevity, can have a major impact on retirement.

Estate Planning

Estate planning consists of preparing the assets to be transferred after death. The key components are:

1. Will: Legal document stating how an individual wishes to have their assets distributed following death.

2. Trusts: Legal entity that can hold property. Trusts come in many different types, with different benefits and purposes.

3. Power of Attorney: Appoints a person to make financial decisions in an individual's behalf if that individual is unable.

4. Healthcare Directive: A healthcare directive specifies a person's wishes in case they are incapacitated.

Estate planning involves balancing tax laws with family dynamics and personal preferences. Estate laws can differ significantly from country to country, or even state to state.

Healthcare Planning

The cost of healthcare continues to rise in many nations, and long-term financial planning is increasingly important.

1. Health Savings Accounts, or HSAs, are available in certain countries. These accounts provide tax advantages on healthcare expenses. Eligibility rules and eligibility can change.

2. Long-term care insurance: Coverage for the cost of long-term care at home or in a nursing facility. Cost and availability can vary greatly.

3. Medicare: This government health insurance programme in the United States primarily benefits people 65 years and older. Understanding the coverage and limitations of Medicare is important for retirement planning.

Healthcare systems and costs can vary greatly around the globe, and therefore healthcare planning requirements will differ depending on a person's location.

You can also read our conclusion.

Financial literacy is a complex and vast field that includes a variety of concepts, from basic budgeting up to complex investment strategies. The following are key areas to financial literacy, as we've discussed in this post:

1. Understanding basic financial concepts

2. Developing skills in financial planning and goal setting

3. Diversification of financial strategies is one way to reduce risk.

4. Understanding the various asset allocation strategies and investment strategies

5. Plan for your long-term financial goals, including retirement planning and estate planning

The financial world is constantly changing. While these concepts will help you to become more financially literate, they are not the only thing that matters. Financial management can be affected by new financial products, changes in regulations and global economic shifts.

Achieving financial success isn't just about financial literacy. As we have discussed, behavioral tendencies, individual circumstances and systemic influences all play a significant role in financial outcomes. Critics of financial education say that it does not always address systemic inequalities, and may put too much pressure on individuals to achieve their financial goals.

Another perspective emphasizes the importance of combining financial education with insights from behavioral economics. This approach recognizes people don't make rational financial choices, even if they have all the information. It may be more beneficial to improve financial outcomes if strategies are designed that take into account human behavior and decision making processes.

The fact that personal finance rarely follows a "one-size-fits all" approach is also important. Due to differences in incomes, goals, risk tolerance and life circumstances, what works for one person might not work for another.

Learning is essential to keep up with the ever-changing world of personal finance. It could include:

• Keep up with the latest economic news

• Regularly reviewing and updating financial plans

• Look for credible sources of financial data

• Considering professional advice for complex financial situations

It's important to remember that financial literacy, while an essential tool, is only part of the solution when it comes to managing your finances. The ability to think critically, adaptability and the willingness to learn and change strategies is a valuable skill in navigating financial landscapes.

Ultimately, the goal of financial literacy is not just to accumulate wealth, but to use financial knowledge and skills to work towards personal goals and achieve financial well-being. Financial literacy can mean many things to different individuals - achieving financial stability, funding life goals, or being able give back to the community.

By developing a solid foundation in financial literacy, people can better navigate the complex decisions they make throughout their lives. But it is important to always consider your unique situation and seek out professional advice when you need to, especially when making major financial choices.

The information provided in this article is for general informational and educational purposes only. It is not intended as financial advice, nor should it be construed or relied upon as such. The author and publishers of this content are not licensed financial advisors and do not provide personalized financial advice or recommendations. The concepts discussed may not be suitable for everyone, and the information provided does not take into account individual circumstances, financial situations, or needs. Before making any financial decisions, readers should conduct their own research and consult with a qualified financial advisor. The author and publishers shall not be liable for any errors, inaccuracies, omissions, or any actions taken in reliance on this information.