Why Is Financial Literacy So Important?
Financial literacy is one of the most important skills that a person can have for their overall well-being. Understanding and managing personal finances effectively can help you save for the future, improve your credit score, and protect yourself from potential financial emergencies.
Additionally, having a good understanding of finances can help people build healthy personal relationships with money and reduce financial stress. Financial literacy benefits individuals, their families, communities, and the economy.
Financial literacy enables people to make informed financial decisions and protect themselves from financial risks. It can also help them build a positive financial future, achieve their financial goals, and live a comfortable life.
Impact of Financial Illiteracy
Unfortunately, many adults struggle with financial literacy. According to the Milken Institute, only 57% of adults in the United States are financially literate. This lack of knowledge can lead to serious problems.
According to a 2022 report, almost two-thirds of Americans live paycheck to paycheck without a path forward. Another 50% say they can’t manage a $1,000 emergency with the money in their savings.
Those who are financially literate are better able to save money, budget, and manage their credit cards and debt. They are also more likely to understand their credit score and less likely to fall victim to scams. In addition to poor financial outcomes, financial illiteracy has also been shown to correlate with poor physical health. Several factors may lead to this outcome, but the result is the same. Therefore, financial literacy is essential to reach financial stability and security.
Financial literacy can be empowering. When people understand how money works, they’re less likely to feel overwhelmed, shame or helpless when faced with financial challenges. They’re also more likely to take action and seek out help when needed.
What Is Financial Literacy?
Financial literacy is the knowledge of managing all aspects of your financial life to reach and maintain a healthy state of financial wellness. More specifically, it helps you understand what you should be doing with your money and why it is essential; while also providing you with the tools to know how to do it and feel comfortable with it.
Examples of Financial Literacy Principles
Example 1
- What: Pay yourself first.
- Why: Prioritizing saving will create wealth and ensure you have a financial buffer for emergencies. It also takes advantage of compounding interest and investment returns if done consistently and over the long term.
- How:
- Track spending to find patterns and to help you build a budget.
- Use a budget to reduce excessive spending. Live frugally to maximize your money.
- Automate your saving.
Example 2
- What: Have your money work for you.
- Why: Saving alone is often not sufficient to meet long-term goals like retirement. Investing wisely and over a long time can increase your net wealth.
- How:
- Seek sound investments and trustworthy advisors.
- Live off 90% or less of your income. Save, and invest the remaining 10%.
- Start investing early in life, even if the amount is small, to build the habit and maximize compounding.
Example 3
- What: Protect your money
- Why: To build wealth and financial security, you need to ensure you keep more of the money you make.
- How:
- Minimize the taxes, fees, and interest you pay.
- Keep your money secured in a bank that is insured.
- Use insurance to protect your assets.
Here is a short list of some of the basic financial literacy principles:
- Pay yourself first
- Live within your means
- Have your money work for you
- Protect your money and your assets
- Keep your money safe with banks
- Insure your assets
- Maximize your earning potential
- Prioritize wealth creation and maintenance
- Use debt to help better yourself in the future
- Set financial goals
- Donate a portion of your income
- Maximize your earning potential
Understanding financial literacy principles can help you save for retirement, pay off credit cards and other debt, and make wise investments. There is also a lot of power in feeling like you have a handle on your money. And the more knowledge you have about financial concepts, the more equipped you will be to increase your financial wellness and security.
Importance of Financial Literacy for Young People
Financial literacy education is critical for young people because it can help them avoid making costly mistakes with their money and set them up for a successful financial future.
Some of the benefits of financial literacy for youth include learning how to: save money, budget effectively, make wise investments, understand credit and debt, and set financial goals. When young people have a strong understanding of these concepts, they are more likely to be successful in managing their finances as adults.
One of the biggest reasons to learn about finance early is to avoid common pitfalls that can lead to significant financial problems later in life. For example, many people make the mistake of not starting to save for retirement until they are much older, which can limit their options later on in life.
Importance of Financial Literacy for Adults
Here are seven reasons why financial literacy is important for adults:
- It can help you get out of debt. Studies have shown that people with high levels of financial literacy are less likely to carry high debt levels.
- It can help you save money. If you can budget and spend wisely, you can use the money you don’t spend to help you build your savings for long-term goals and emergencies.
- It empowers you to ask the right questions and understand the risks and benefits of different financial products, helping you avoid poor money decisions and risky investments.
- It helps you build and maintain wealth, helping you to achieve long-term financial stability.
- It helps you improve your health and relationships by reducing financial stress. Being stressed and anxious about money is often attributed to poor health and relationship conflicts.
- It can help to build your confidence and self-esteem when you let go of any shame or self-doubt you may have about how to manage your money.
- It can help you keep more of the money you have by helping you avoid paying unnecessary fees, interest, and taxes.
Importance of Financial Literacy for Seniors
One of the most critical steps a senior can take to protect their future is becoming financially literate. Many seniors live on a fixed income from retirement savings or a private or government pension. That means you must make wise choices with your money to cover your living expenses and save for the future. However, without the flexibility to learn from our financial mistakes, that can be costly both in the short and long run.
As we get older, we often face more complex financial decisions. For example, we may need to decide whether to downsize our home. Should we rent or buy when downsizing? You may also need to manage your retirement income, which could be coming from different sources at different times. Sound financial education can help maximize your retirement savings while minimizing taxes and other fees that drain your accounts.
Unfortunately, many seniors are targets of scams and frauds. Financial illiteracy can make us more vulnerable to these schemes. Seniors who understand basic personal financial concepts are less likely to be taken advantage of.
It is never too late to learn about financial literacy and its importance. Seniors, in particular, can benefit from understanding finance basics and learning how to make their retirement savings go the distance. Wise financial decision-making can improve seniors’ quality of life in retirement.
What the Experts Have to Say
"When you are able to manage your credit, investing, and money more effectively, your overall quality of life improves significantly.
Financial literacy can also help you grow confidence in other areas of your life."
Dr. Enoch Omololu
Founder of Savvy New Canadians and CEO at Enoch Media Inc.
"Financial literacy is knowing how to "read" money decisions. The importance of having the skills and knowledge to navigate the financial world is how adults gain independence to make decisions. Teaching children financial literacy means preparing them for earning and managing their money (spending, saving, borrowing/lending). Teaching concepts from a young age better prepares children for becoming financially confident adults - which means an increased likelihood of them making fewer money mistakes and a better chance of them making decisions for long-term success."
Alexandra (Alyx) Valdal BA, CHS, CFP, CLU
Iron & Pearl Financial (a Division of Apple a Day Financial, Ltd.)
"Financial literacy is important because the earlier you start to develop healthy money habits, the more success you will have in the long run when it comes to building wealth. Key financial concepts such as compounding and living within your means are exponentially more beneficial the earlier you start understanding and applying these concepts in your daily life."
Ayana Forward, CFP
How to Improve Your Financial Literacy
If you want to be successful in life, it’s important to have a good handle on your finances.
Thankfully, there are things you can do to improve your financial literacy. The first step is to educate yourself about basic financial concepts. There are plenty of resources available both on and offline.
Here are some places to seek additional resources:
- Books
- Podcasts
- Courses at local high schools, colleges and universities
- Online course
- Workshops at community organizations or libraries
- Articles like this one
- Certified financial planners
Once you have a basic understanding of financial concepts, it’s time to start putting them into practice. Depending on where you are on your financial journey, you may need to:
- Automate contributions to your savings.
- Track your spending and look for patterns.
- Create a budget.
- Review and revise your budget periodically to make it work for you.
- Check and correct errors on your credit report (this can improve your credit score).
- Get your credit score to see how you have been managing your debt.
Everyone is different, so access the financial resources you need to improve your financial wellness.
Conclusion: Why Is Financial Literacy Important?
Financial literacy is important because it helps people make informed decisions about their money. In addition, it provides you with the knowledge of not just what to do but also why you should do it—allowing you to reduce stress and increase your overall well-being.
Continue to educate yourself and act on what you learn. You can help yourself build wealth by saving more, investing for the long term and creating a plan to help you reach your financial goals, all while weathering the financial emergencies that are bound to pop up from time to time.
Invest in yourself by seeking out resources that can help you master your finances today.
