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No. 2010/16
Economic Literacy: An International Comparison
Tullio Jappelli
Center for Financial Studies
Goethe-Universität
House of Finance
Grüneburgplatz 1
60323 Frankfurt am Main Deutschland
Telefon: +49 (0)69 798-30050
Fax: +49 (0)69 798-30077
http://www.ifk-cfs.de E-Mail: info@ifk-cfs.de
Center for Financial Studies
The Center for Financial Studies is a nonprofit research organization, supported by an
association of more than 120 banks, insurance companies, industrial corporations and
public institutions. Established in 1968 and closely affiliated with the University of
Frankfurt, it provides a strong link between the financial community and academia.
The CFS Working Paper Series presents the result of scientific research on selected
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Prof. Michalis Haliassos, Ph.D. Prof. Dr. Jan Pieter Krahnen Prof. Dr. Uwe Walz
* I am grateful for helpful comments from an anonymous referee, Dimitris Christelis, Elsa Fornero, Luigi Guiso, Michalis Haliassos and
participants at the SAVE Conference on Economic and Psychological Aspects of Households’ Saving Behaviour: Oldage Provision,
Financial Literacy and the Financial Crisis (Mannheim, June 29-30, 2009), and to the Italian Ministry of Education for financial support.
1 University of Naples Federico II, CSEF, and CEPR
CFS Working Paper No. 2010/16
Economic Literacy: An International Comparison*
Tullio Jappelli
1
July 28, 2010
Abstract:
Many studies show that most people are not financially literate and are unfamiliar with even
the most basic economic concepts. However, the evidence on the determinants of economic
literacy is scant. This paper uses international panel data on 55 countries from 1995 to 2008,
merging indicators of economic literacy with a large set of macroeconomic and institutional
variables. Results show that there is substantial heterogeneity of financial and economic
competence across countries, and that human capital indicators (PISA test scores and college
attendance) are positively correlated with economic literacy. Furthermore, inhabitants of
countries with more generous social security systems are generally less literate, lending
support to the hypothesis that the incentives to acquire economic literacy are related to the
amount of resources available for private accumulation.
JEL Classification: E2, D8, G1
Keywords: Economic Literacy, Human Capital, Social Security
1
1. Introduction
Households have interacted with financial markets in the last 20 years, much more so than in
the past, and also have been exposed to increased financial risk as a consequence of financial
market liberalization and policy reforms aimed at promoting retirement savings through
private pension funds and individual retirement accounts. Although to different extents, these
trends are affecting all countries and all dimensions of economic transactions, from payment
needs, as witnessed by the growth of the credit card industry, portfolio investments, and
borrowing in the mortgage and consumer credit markets. Many of these activities, however,
are entered into by uninformed individuals.
The recent crisis has amplified the risks that people face when they lack the financial
sophistication required to absorb financial shocks. Other things equal, differences in
economic literacy create the potential for significant distributional consequences of a financial
crisis, because unsophisticated investors are more exposed to financial market fluctuations
then investors that are able to manage and diversify risks. The risks are especially severe for
individuals whose pensions depend on stock market developments and for the elderly whose
assets are based on decisions made in the past and whose margins for adjustment are smaller.
Some recent financial economic studies have made considerable progress in measuring
economic literacy. Economists have tended to measure literacy through a rough self-
assessment of respondents’ financial sophistication; however, there is a second generation of
studies based on detailed and more reliable questions on finance. These surveys have
established convincingly that a large proportion of the adult population knows very little
about finance and that many individuals are unfamiliar with even the most basic economic
concepts, such as risk diversification, inflation, interest compounding, and mortgage and other
debt instruments (Lusardi, 2008). There is also substantial evidence that economic literacy
differs widely across households and tends to be rather limited in the less educated, poorer
demographic groups. What makes this evidence even more worrying is that many people are
not even aware of their ignorance.
Although considerable progress has been made on measuring economic literacy, its
determinants, the effectiveness of financial education and the consequences of financial
literacy for households’ financial decisions are not well understood. This paper adopts an
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international comparative perspective, which involves merging indicators of economic
literacy with a wide set of macroeconomic and institutional variables. The purpose of the
analysis is to study the factors that are more likely to explain international differences in
literacy using cross-country and time-variable indicators.
To study cross-country differences in economic literacy, the ideal dataset would include
an assessment of financial knowledge and skills, such as is provided by OECD-PISA for 15-
year olds for math or science. In the absence of such detailed (and expensive) data, we rely on
the IMD World Competitiveness Yearbook (WCY), which compiles summary indicators of
economic literacy for 1995 to 2008. The indicators are computed based on interviews with
senior business leaders in 55 countries; the WCY aggregates their responses by country to
provide an overall score for economic literacy. The data show that economic literacy varies
substantially across countries, from the lowest scores in some Latin American and former
socialist countries to high values in the Scandinavian countries and East Asia.
Regression analysis indicates that PISA test scores and educational achievement are
positively associated with economic literacy. On the other hand, countries with high mandated
savings in the form of social security contributions and resulting more limited resources for
private wealth accumulation, show lower levels of financial literacy. The results are robust to
the presence of other macroeconomic and institutional variables and country-fixed effects.
These findings are consistent with standard human capital models where households’
knowledge depends on cognitive abilities and the incentives to acquire information, which, in
turn, are related directly to the size of financial markets (Delevande, Rohwedder, and Willis,
2008).
The paper is organized as follows. Sections 2 and 3 respectively, discuss the importance
of economic literacy and review the existing international evidence. Section 4 describes the
data used in the paper, and Section 5 reports the cross-section and panel regressions. Section 6
concludes.
