Financial literacy

The number one problem in today’s generation and economy is thelack of financial literacy. (Alan Greenspan)

If you want to create wealth, it is imperative that you believe thatyou are at the steering wheel of life, especially your financial life.(T. Harv Eker)

What is financial literacy?Financial literacy was defined by a 2000 Fannie Mae Foundation reportas the ability to read, analyze, manage, and communicate about thepersonal financial conditions that affect material well-being. Financialliteracy includes the ability to discern financial choices, discuss moneyand financial issues without (or despite) discomfort, plan for the future,and respond competently to life events that affect everyday financialdecisions, including events in the general economy.1

Financial literacy research and statistics

� Every two years since 1997, the Jump$tart Coalition of Washington,DC has been administering a national financial literacy survey tohigh-school seniors.2 Overall, the surveys have indicated a low level offinancial literacy: on average, the students correctly answered onlyhalf of the questions on a basic personal finance and economics test.3

� IndexCreditCards.com used government debt and census data todetermine that as of July 2009 the average credit card debt in theUnited States was $7,861 per household and $4,013 per adult.4

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What is a credit report?If you have used a credit card or borrowed money then you have a creditreport and a FICO (Fair Isaac Corporation) Credit Score.5

A credit score, a number typically between 300 and 850 based on astatistical analysis of one’s credit history, indicates the creditworthinessof a person. FICO scores consist of data on the amount of debt you owe,your payment history, the length of your credit history (how long it hasbeen since you first established credit), the amount of new credit youhave, and the types of credit you have (credit cards, retail accounts,mortgage, and financial aid). The majority of your credit score(approximately 65 percent) is based on your payment history and theamount of debt that you owe. Information not included in your FICOscore includes factors such as your race, where you live, your salary, youroccupation, and any other information not typically found in a creditreport. The lower the FICO score, the more interest you will pay becausethose with a low FICO score are considered a higher credit risk. Toimprove your credit score, pay bills on time and do not run up a hugedebt. Check out other tips for improving your FICO score at:http://www.myfico.com/CreditEducation/ImproveYourScore.aspx.

You may request a free credit report once every 12 months from eachof the nationwide consumer credit reporting companies: Equifax,Experian, and TransUnion at http://www.annualcreditreport.com in theUS and http://www.annualcreditreport.co.uk/ in the UK. If any of thereports contain inaccurate information, contact the companyimmediately and persistently until they correct the inaccuracies.

Compound interestUnlike simple interest, compound interest is paying interest on theprincipal and interest – in other words, paying interest on top of interestover time. With regard to compound interest, Albert Einstein is quotedas saying, ‘It is the greatest mathematical discovery of all time.’6

Einstein is also credited with discovering the compound interest Ruleof 72 (http://ruleof72.net):

� To find out the number of years it would take to double your moneyat various interest rates, take the number 72 and divide it by theinterest rate. For example, if you wanted to invest $1,000 at 20 percentinterest, you would earn $360 in interest per year. Thus it would takeyou two and a half years to double your money.

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� To find out the interest rate you would need to double your moneywithin a certain period of time, take the number 72 and divide by thenumber of years you want to invest. For example, if you invested$2,000 and wanted to double your money in five years, you woulddivide 72 by 5, which is 14.4. Thus you could double your money infive years with an interest rate of 14.4 percent.

If you are saving money in an interest-paying account such as a savingsaccount, then you are earning compound interest. If you keep a balance ona credit card, you are paying compound interest. For example, if you havea credit card debt of $7,500 at 10 percent interest and you want to pay itoff in five years, you would owe $13,217.56. Thus you would owe$5,717.56 in interest. To calculate the amount of interest you would pay ona credit card, go to http://math.about.com/library/blcompoundinterest.htm.

The secret to financial success is to avoid paying compound interestwhile being paid compound interest.

Financial resources

Resources for financial literacy

ControlYourCredit.gov: http://controlyourcredit.gov/

Grad Guide to the Real World: http://finance.yahoo.com/college-education/article/103030/Grad-Guide-to-the-Real-World

Debt Diet: http://www.oprah.com/article/money/debt/20080722_expert_debtdietsteps

Resources for student scholarships

‘Smart Student Guide to Financial Aid’: http://www.finaid.org/scholarships/

Federal student aid: http://www.fafsa.ed.gov/

Scholarship opportunities: http://www.scholarshiphelp.org/

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Exercises

Exercise 1

Find a career – look in the Occupational Outlook Handbook (http://www.bls.gov/OCO/) and search for your future profession.

1. What is the job outlook in your field?

2. What is the median salary in your field?

3. How much money per month do you think you will need to supportyourself and will this salary give you what you need?

Exercise 2

Create an imaginary budget in an Excel spreadsheet. Create a salary aslarge as you would wish to have upon graduation:

1. Title the spreadsheet at the bottom.

2. Label two columns monthly and yearly; format with themultiplication formula in the yearly column to automaticallymultiply each monthly column by 12.

3. Label rows for each of the following expenditure categories:

– a payroll tax deduction of about 40 percent;

– payment for yourself – budget at least 10 percent for savings;

– 10 percent for charity is suggested;

– mortgage or rent (usually about one week or one-quarter of amonth’s salary), transportation (vehicle, gas, insurance, orpublic transport), utilities (electricity, gas, water), food;

– a category for clothes and personal grooming and anothercategory for gifts and miscellaneous.

4. Highlight the numerical figures in each column and click on thesigma icon (Σ) to total each column at the bottom.

5. Create a pie chart to illustrate your budget.

Exercise 3

Keep track of expenses. For one week, keep a diary of every penny thatis spent each day.

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1. What is the total for each day?

2. What is the total for the week? What is the average per day?

3. What are the most expensive items per week?

4. Make a list of free or low-cost substitutes for five of the items onyour list. How much money could you save each week? How muchwould that be per year?

Additional sourcesFinancial privacy resources:

http://www.privacyrights.org/financial.htm MyMoney.gov from the US Financial Literacy & Education Commission

has a wealth of information related to financial literacy: http://mymoney.gov

To learn how to get out of debt, check out the Dave Ramsey website(http://www.daveramsey.com/) or one of his books, such as FinancialPeace (2002).

To learn how to live well for less and how to stretch your resources,check out the Clark Howard website (http://clarkhoward.com/) orone of his books, such as Get Clark Smart (2002).

Notes1. Lois Vitt et al. (2000) Personal Finance and the Rush to Competence:

Financial Literacy Education in the U.S., Fannie Mae Foundation,Middleburg, VA, at: http://www.isfs.org/rep_finliteracy.pdf (accessed 21 June2009).

2. Jump$tart Coalition for Personal Financial Literacy – see: http://www.jumpstartcoalition.org/ (accessed 21 June 2009).

3. Lewis Mandell (2005) ‘Financial Literacy: Does It Matter?’ University ofBuffalo, 8 April, at: http://www.vajumpstart.org/files/Mandell%20Paper%20April%202005.doc (accessed 21 June 2009).

4. IndexCreditCards.com, ‘Credit Card Debt,’ at: http://www.indexcreditcards.com/creditcarddebt/ (accessed 21 July 2009).

5. Credit score information – MyFICO, at: http://www.myfico.com/CreditEducation/CreditScores.aspx (accessed 21 June 2009).

6. Albert Einstein: the rule of 72 – see: http://www.ruleof72.net/rule-of-72-einstein.asp (accessed 21 June 2009).

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