Executive Summary *

Supported by

A Survey of Financial Literacy among Students, Young Employees and the Retired in India

Study by:

Prof. Sobhesh Kumar Agarwalla

Prof. Samir Barua

Prof. Joshy Jacob

Prof. Jayanth R. Varma

June 2012

Indian Institute of Management Ahmedabad

Citi Foundation

* These are preliminary results from an ongoing research. Please do not cite without prior permission.

Acknowledgments

The authors acknowledge the generous support given by the Citi Foundation to undertake the survey. We thank Ms.Maneesha Chadha, Head - Corporate Citizenship, Citi South Asia for her support and encouragement throughout the study.

We thank Mr.Abhinav Jha, Research Associate at IIM Ahmedabad for his meticulous and dedicated research support for the study. We also acknowledge the administrative support offered by several IIM Ahmedabad staff members.

We thank ACNielsen ORG-MARG Private Ltd. and DEXTER Consultancy Ltd. for conducting the survey related to the study.

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IntroductionFinancial literacy around the world is found to be low as measured by various studies including the OECD1 survey study carried out across 13 countries. In India, the levels of financial literacy are poor even by the low global standards, according to some studies such as the VISA International Financial Literacy Barometer 2012.

There is therefore a need for comprehensive research on financial literacy in India. This study is a modest beginning in this direction:

• The survey is based on the globally recognized OECD questionnaire to provide international benchmarking.

• The OECD approach has the additional benefit of measuring all the important components of financial literacy – financial knowledge, financial behaviour and financial attitude.

• The study also provides results about three key demographic groups – students, young employees and retired persons. By studying different target groups such as the students who are yet to start their career, young employees who are at an early stage of their career, and the retired who have concluded their career, we obtain a holistic picture of financial literacy in our country.

• The survey of retired persons also provides a limited assessment of the link between financial literacy and financial outcomes.

• This study is exploratory and descriptive by design and provides the basis for formulating hypotheses that can be tested in future studies.

Importance of Financial Literacy• Well-functioning financial markets depend on participants making informed decisions.

• Financial sector reforms transfer the responsibility of financial decision making to individuals:

< Defined contribution pension plans

< Shift from merit based to disclosure based regulation

< End of financial repression and the consequent proliferation of choice in financial products

• While consumer protection laws do depart from the caveat emptor (“buyer beware”) maxim of general law, even these pro-consumer laws depend on alert and well informed consumers.

Financial Literacy Survey DesignThe OECD defines financial literacy as –“A combination of awareness, knowledge, skill, attitude and behaviour necessary to make sound financial decisions and ultimately achieve individual financial well being.” The OECD survey uses series of questions to measure knowledge, behaviour and attitude and then defines financial literacy to be the sum of the scores on these three dimensions. Though awareness is part of the OECD’s conceptual definition of financial literacy, awareness of financial products does not appear to form part of their operational definition of financial literacy.

We follow the OECD’s operational definition of financial literacy (knowledge, behaviour and attitude), but we use supplemental sections of our survey to measure awareness of financial products more effectively and to assess financial outcomes more directly.

The survey among students is limited only to understand their basic financial knowledge. We do not examine and measure financial behaviour and financial attitude among students because the limited direct exposure of students to financial decisions could leave such measures very unreliable.

1Organisation for Economic Co-operation and Development

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Students Employees RetiredLimited Survey Comprehensive survey Comprehensive SurveyCovers Only financial knowledge Covers financial literacy

(knowledge, behaviour and

attitude) and awareness

Covers financial literacy

(knowledge, behaviour and

attitude) and awareness as

well as retirement financial

planning (financial outcomes)

Sample characteristicsRespondent Category

Students Employees Retired

Sample Size 1001 983 983Education Levels First year of graduate or

Diploma programmeGraduates and Post-Graduates comprise about 89%

47% have education of graduation or above,

16% have passed higher secondary, 23% are matriculates, the remaining are educated only up to primary or lower

Work-Experience None Less than 5 years of Work Experience (42% have about two years work experience)

Retired after 20 to 40 years of work-experience in formal employment. Only about 10% are either employed or self-employed after retirement

Age Between 17 and 22 years Between 20 and 40 (about 94% fall within the 20-30 age bracket)

Between 40 and 95 years (72% fall in the 55-70 age bracket)

Gender More than two-thirds male Males 78%, females 22% Males 83%, females 17%Marital status Mostly single Singles about 75% Married are 91%, widowed

are 7%Domicile Nearly two-thirds from

towns and cities99% from towns and cities, 1% from villages

93% from towns and cities, 7% from villages

Family Income ` p.m.

Income

Current Salary ` p.m. Last Drawn Salary ` p.m.

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Financial KnowledgeFinancial knowledge component measures understanding of interest calculations, relationship between inflation and return, inflation and prices, risk and return, and the role of diversification in risk reduction.

Financial knowledge of students, young employed youth and retired respondents is low by international standards. Since our survey questions are similar to those in the OECD survey and the answers are scored in a similar way, we can compare our results with the OECD pilot study of 13 countries.

Proportion of respondents scoring high on financial knowledge

India OECD Average Worst OECD Country

13 countries South Africa

Less than one-fourth More than half About one-third

Variation in financial knowledge by demographic and socio-economic subgroups2

Gender Domicile Education IncomeFemales score lessthan males but this isin line withinternationalexperience.

Employees with ruralbackground performworse than those withurban background.For retirees, there is asimilar pattern interms of towns versuscities.

Among the youngemployed, financialknowledge is betteramong graduates andpost-graduates. Thisis not so for theretired.

Respondents in thehigher income groupsappear to havegreater financialknowledge.

Financial BehaviourThe financial behaviour scale assesses the way respondents deal with money in their daily lives through:

• Assessment of affordability of products and expenditures

• Timely payment of bills

• Planning and monitoring of the household budget

• Active saving habits

• Propensity to borrow

Responses are mapped on a desirability scale that measures financial self-discipline and responsible behaviour.

Indian respondents score high on financial behaviour:

• 68% of the employed and 75% of the retired score high on financial behaviour.

• In terms of the OECD survey, this is comparable with Germany, Norway, Ireland, Malaysia and Peru where around 60% score high on financial behaviour.

• About 90% of the employed and 86% of the retired report that they are strongly inclined to assess the affordability of items. Compared to the OECD sample, Indians appear to be one among the best in their propensity to assess affordability.

• Most respondents, about 68% of the employed and 70% of the retired, report that they have avoided borrowing by depending on their savings or assets during periods of financial difficulty.

• The practice of financial goal setting among Indians also appears to be within the range of the OECD survey, but young Indians are not among the best on this dimension.

2In this table, we present results only for young employees and retirees. The subgroup analysis for students is omitted for the sake of brevity. These results are available in the full report.

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The relatively high level of financial discipline shown by the Indians could perhaps be due to their relatively low level of per capita income and the lack of general social support systems.

Variation in financial behaviour by demographic and socio-economic subgroups:

Young Employees Retirees• Subgroups showing more positive behaviour are:

< Males< Married respondents< Respondents from urban background< Graduates and post graduates

• Income is not very important

• Financial behaviour does not appear to vary across gender, marital status (other than divorced), domicile and education.

• Respondents with higher income levels exhibit positive behaviour, except for the highest income group.

• The divorced exhibit less positive financial behaviour.

Financial AttitudeBased on the belief that attitude influences behaviour, the OECD has developed a scale to measure the financial attitude. Following the OECD, our survey also measures financial attitude in terms of agreement or disagreement towards statements about:

• the extent of belief in planning

• propensity to save, and

• propensity to consume

Close to half of the young employees and retirees have a highly positive attitude towards financial planning and do not seem to show a very high propensity for consumption. This is comparable to the levels observed in the OECD survey in developed countries like Estonia and United Kingdom, but is significantly lower than many other emerging European economies like the Czech Republic, Hungary and Albania.

Variation in financial attitude by demographic and socio-economic subgroups:

Young Employees Retirees• Subgroups showing more positive attitude are:

< Females

< Married respondents

< Those with higher levels of income

• Education and domicile are not very important

• Financial attitude does not appear to vary across gender, marital status, domicile and education

• Respondents with higher income levels exhibit more positive attitude

Financial Knowledge, Behaviour and Attitude: Inter-linkagesOn the basis of prior literature in the field, we expect positive relationships between Financial Knowledge, Behaviour and Attitude. Our survey results suggest that the financial behaviour is influenced by financial knowledge, but do not provide evidence for the other linkages. This requires further research.

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Expected relationship (prior literature)

Knowledge Knowledge

Positive

Positive

PositiveNone?

None?Positi

ve

Attitude AttitudeBehaviour Behaviour

Tentative results from the survey

Financial LiteracyThe financial literacy score is obtained by adding the scores of the three different dimensions – financial knowledge, financial attitude, and financial behaviour. The maximum possible score for the financial literacy measure is 21 (8 for financial behaviour, 8 for financial knowledge, and 5 for financial attitude).

The average financial literacy score of the respondents is about 13.7 for both young employees and retirees – this is almost the same as the average observed for the countries in the OECD survey (the individual country averages in the OECD range from 12.4 to 15).

This is nothing to be proud about because financial literacy across the world is regarded as poor; but it does imply that the financial literacy level of Indians is not exceedingly poor.

The Indian financial literacy score matches the OECD average through a combination of three factors:

• Poor performance in financial knowledge.

• Relatively better score in financial behaviour.

• Almost at par score on financial attitude.

Variation in financial literacy by demographic and socio-economic subgroups:

Gender Marital status Domicile Education IncomeNo significantdifference. Lowerfemale score inknowledge offsetby betterbehaviour andattitude scores.

Marriedoutperformsingles (betterbehaviour andattitude)

Urbanbackground isassociated withhigher literacy(mainlyknowledge)

Among theyoung employed,financial literacy(knowledge) isbetter amonggraduates andpost-graduates.This is not so forthe retired.

Higher income isassociated withbetter financialliteracy (mainlyfinancialknowledge).

Self perception of financial literacyOur survey measured the self-perception of the respondents about their financial literacy in terms of perceived level of preparedness to manage expenses and savings, including knowledge about financial products.

Interesting conclusions from this part of the survey include:

• Overconfidence: Nearly 48% of the employed and 60% of the retired respondents report that they are either equipped or completely equipped to deal with the challenges involved in managing their personal finance. These are also the percentages of respondents scoring above the OECD average (which is a low level of financial literacy in an absolute sense). As such, these numbers indicate a marginally positively bias in line with the well known phenomenon of overconfidence in the behavioural finance literature

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• The financially less literate are more overconfident: Though about a third of respondents have low financial literacy, only 15% admit that they are either unequipped or completely unequipped to manage their finances.

• Positive correlation: The overall relationship between perceived financial literacy and measured financial literacy is positive

Variation in overconfidence by demographic and socio-economic subgroups:

Gender Marital status Domicile IncomeMales moreoverconfident thanfemales

Not significant Respondents of urbanorigin have arelatively low level ofoverconfidence

High income isassociated with higherliteracy (bothperceived andmeasured)

Awareness of Financial Products and Choice of Investment AdviceFinancial knowledge, behaviour and attitude are necessary but not sufficient for a person to make sound financial choices. A good financial choice also requires an awareness of the different products and services that are available. The survey results show relatively low levels of awareness about commonly available saving, insurance, and credit related products:

• Only about 7% among the employees (and 9% among the retired) have heard of all the commonly available products.

• Awareness about even fixed deposits, a very common product available with the banks, is not universal.

• More than half of the young employees are not aware of employee specific vehicles for long-term wealth creation like PPF and pension-fund.

• Awareness about many of the financial market saving vehicles, like shares, bonds, and mutual funds is not very high.

• About one-fourth of the employees seem to be aware of only three products, which include savings account, fixed deposits, and insurance.

The lack of awareness has implications both for households and for the broader economy:

• Low awareness leads to poor diversification of risk across products and suboptimal investment of savings for the household.

• Low awareness could lead to inefficient allocation of capital in the economy.

The survey results also show a high level of dependence on informal sources of financial advice:

• The most frequently used advice in the choice of financial products by the retired is sought from friends and relatives who are not associated with the financial industry.

• Less than a quarter of the respondents depend on independent financial advisers and advertisements.

• The employer’s advice does not figure prominently among the sources relied on for investment advice.

• As one would expect, the young employees appears to rely more on the internet than the retired as a resource of information. They also seem to rely relatively more on their own experience.

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Retirement Financial PlanningThe survey of retired persons provides an opportunity to measure financial outcomes in a limited way. In this survey, therefore, there was an additional section on retirement financial planning besides the sections on financial knowledge, behaviour, attitude and awareness. The following are the important results from this section of the survey.

Pre-retirement PlanningOnly about 10% of the retired respondents depend on their children/spouse/relatives for their income. About 68% depend on the pension. The other major sources of income depended on are interest and income from house property. This indicates that the majority of this generation has achieved a modest degree of success in their financial planning. But a few caveats must be kept in mind:

• This generation has had the benefit of defined benefit pension plans

• Most of the retirees fall in the 55–70 age bracket where the full impact of erosion of retirement income through inflation and rising longevity is yet to be felt.

• Most of them have probably had the benefit of stable jobs and income

This relatively benign outcome is due to positive financial behavior

• Nearly 60% of retirees reported that they have attempted to estimate the saving needs which could support their post-retirement expenses. Many of the rest might also have had the benefit of defined benefit pension plans. Only about 17% reported that they had no major savings during their service life.

• Nearly 40% seem to start saving beyond their provident fund contributions before their mid-30s.

• Only about a quarter of the retirees are found to be not saving for retirement every year. Nearly two-thirds of the respondents claim that they have saved systematically a certain percentage of salary every month per year or a certain amount every year for retirement.

The positive financial behaviour has offset the problems caused by poor financial knowledge:

• While estimating their saving requirements, most respondents do not account for either living expenses or expected inflation, the two key factors which could impact their post-retirement well-being.

Post-Retirement Investment BehaviourAbout two-thirds of the retired commute their pension on retirement. Apart from pension commutation, retirees may receive significant lump sum payment on retirement in the form of provident fund, gratuity and other superannuation benefits. Proper investment of these amounts is critical for post retirement income.

Again, the prudent financial behaviour of Indian households is visible in the survey results:

• It appears that about 62% of the retired have saved a substantial part of the amount received on retirement with the remaining either repaying liabilities or distributing it among their dependents.

• Among those who have re-invested the lump sum received on retirement, most of them seem to prefer to spread the investments across a number of opportunities.

• More than three-fourth of the savings are parked in relatively less risky opportunities like savings bank, fixed deposits, post office/NSC except for land or property.

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Highlights from the study• Survey of nearly 3,000 people among three groups:

< Students (survey covers only financial knowledge)

< Employees (survey covers financial knowledge, behaviour and attitude)

< Retired (survey covers information on retirement financial planning in addition to financial knowledge, behaviour and attitude)

• Financial Literacy measured in terms of three components:

< financial knowledge, financial behaviour and financial attitude.

• Financial Knowledge

< Indians score lower on financial knowledge than all the OECD countries.

< Urban population has higher financial knowledge.

< People with higher income have better knowledge

< Among the employed, people with higher education have better knowledge

• Financial Behaviour

< Indians match the best of the OECD sample in their propensity to assess affordability and have high level of financial discipline.

< Most employed and retired borrow less and depend on their savings.

• Financial Attitude

< Indians are at par with the OECD countries

< Females, married and with higher incomes believe in planning, saving and consumption.

< Education and urban background have no influence on the financial attitude.

• Awareness of financial products is low.

• Less than a quarter of the respondents depend on independent financial advisers and advertisements.

• Retirement financial planning moderately successful

< Only about 10% of the retired depend on their relatives for income

Tentative Conclusions and Future Directions

Poor financial knowledge partially offset by good financial behaviour The striking conclusion of the study is that financial knowledge in India is very poor as compared to the global standards. A large part of this is due to poor numeracy skills and can be attributed to the poor elementary and primary education system as documented in other studies.

However, this poor knowledge is offset by prudent financial behaviour and good financial attitude that lead to an overall score of financial literacy that is at par with admittedly poor global standards.

Relatively benign outcomes so far, but no room for complacencyThe result has been a somewhat benign outcome for the current generation of retirees in terms of.

• Adequacy of savings

• Choice of savings vehicles

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It would be a mistake however to extrapolate from this outcome to the current generation of employees for several reasons:

• The current generation has to cope with defined contribution plans rather than the defined benefit plans that the earlier generation enjoyed.

• Rising longevity and increasing financial market volatility pose threats to retirement savings.

• The current generation is likely to face greater job insecurity and income uncertainty.

• Greater access to consumption credit and other liability products could alter financial behaviour over a period of time.

• The informal sources of financial advice that served the old generation reasonably well are unlikely to perform equally well in an age of nuclear and sub nuclear families and an environment of increasing financial complexity.

The way forwardThere is an urgent need for government policy measures to improve financial literacy:

• Fortunately, knowledge deficits are easier to address than problems in attitude and behaviour. The relatively positive behaviour and attitude scores of the population provide a strong base to build a financial literacy programme focused on improving knowledge of different age groups.

• Equally, it is important to build regulatory frameworks that improve the delivery of financial services and financial advice to serve the more complex and challenging needs of the present generation.

There is need for lot more research on financial literacy in India:

• Despite our own study and other recent studies, we know too little about financial literacy in India.

• India is a vast country with many social and economic disparities.

• Survey results need to be supplemented with other methodologies:

< Focus group interviews

< Experiments

< Longitudinal studies

Indian Institute of Management AhmedabadVastrapur, Ahmedabad 380 015

Phone: 079-6632 3456/ 2630 8357 • E-mail: fls@iimahd.ernet.in