Behavioural hurdles to financial capability in the UK

1. Context
2. The study
3. Key findings
4. Points to consider

Context

Making good financial decisions is increasingly important in the face of tightened household budgets and complex financial products. However, many people lack the capability to make good financial decisions and take positive action financially: they have poor financial capability. The consequences of bad financial decisions also impacts on individuals’ wider health and wellbeing. Financial capability is defined by the report as “having the knowledge, skills and opportunity to make good financial decisions” (Spencer et al, 2015; p11). It is distinct from financial literacy, which focuses solely on knowledge about financial matters. Financial education is often seen as the solution to poor financial capability; however, little is known about its effectiveness. Behavioural science offers an alternative perspective through which to understand financial decision making and potentially to inform and improve financial education.

The study

The study, which was supported by the RSA and the AXA Research Fund, focuses on learning from behavioural science as it relates to financial capability. The report is primarily informed by a review of the academic literature from the fields of economics, psychology and finance and in relation to the evaluation of financial education programmes. It is supplemented with evidence from bilateral consultations with financial education providers and an online survey of a small, unrepresentative sample of financial education experts.

Key findings

The report identifies six behavioural hurdles (that are natural aspects of human behaviour) to financial capability. Their influence is strong, and likely to have evolutionary underpinnings. They are:

• Cognitive overload: having too much to think about impairs decision making. This can affect how we manage our budgets, debt and retirement savings. Heuristics (short cuts such as rules of thumb) can be used to overcome this hurdle.
• Empathy gaps: failing to consider our feelings in a different situation can lead us to buy things we don’t need. This can affect how well we stick to our budget. Commitment devices represent one way to overcome this hurdle.
• Optimism and overconfidence: having unrealistic expectations about the future can affect how well we provide for our retirement and dependents and how we manage our assets and debts. Repeated ‘calibration’ exercise which compare expectations to reality may be one way to overcome this hurdle.
• Instant gratification: preferring short-term rewards can undermine our ability to save and budget for the long term. Impulsive spending is an example of this effect and mechanisms (such as cash budgets) which facilitate self-control may help reduce it.
• Harmful habits: mindless behaviour can amplify a poor financial decision as it becomes a recurring event and can impact on our approach to maintaining budgets, managing debt and saving regularly e.g. using a credit card for making purchases. Creating new habits is one way to potentially overcome this effect.
• Social norms: how others behave can influence how we feel and behave, and this can impact our approach to managing budgets and saving. e.g. pressure to ‘keep up with the Joneses’. Social norms can have positive influence and peer group learning may be one way to help overcome the hurdle.

Better understanding of these hurdles can lead to better financial education and financial products. There is room for improvement in financial education programmes in the extent to which education addresses them. Encouraging take up of financial education, combining education with practice (i.e. learning by doing) and improving teacher capability and confidence are ways to improve the effectiveness of financial education. The report recommends three potential approaches for improving financial education, which should be subject to testing and piloting. These are:

• teaching action-based strategies rather than focussing on financial knowledge;
• including experiential learning which enables skills to be developed; and
• providing financial education that is timely i.e. when people are young and at other times in their lives when they are most receptive.

Points to consider

The findings of the report are timely and relevant, given the widespread adoption of financial education programmes in the UK and elsewhere. While it is a considered analysis of the existing evidence, the report necessarily, however, takes a partial view, both in focussing on lessons from behavioural science (sometimes referred to as ‘nudge theory’) only and in selecting six behavioural hurdles. Although a bibliography is given, the method of review and the number of financial education providers and experts included in the approach is not given. The report includes a methodological appendix which explores how the impact of financial education is assessed.

Full report

https://www.thersa.org/globalassets/pdfs/reports/rsa_wired_for_imprudence.pdf