If you can understand compound interest, inflation and risk diversification, then you’re probably doing alright when it comes to managing your money effectively.
Yet, only 28% of UK adults can explain these three financial concepts correctly, according to a large-scale study, Number Nation.
The survey of 10,000 people was run by The Richmond Project charity set up by former prime minister Rishi Sunak and his wife Akshata Murty.
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The study, one of the biggest of its kind, shows that millions are at risk of making poor financial decisions around retirement, savings and investing without the basic level of knowledge.
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For example, this is often apparent when people stick to cash savings, thinking it is ‘safer’ and ‘risk-free’, when in fact, inflation can erode the value of cash. Without the understanding of risk diversification, taking steps into investing can feel difficult, and ultimately, not knowing how compounding works can reduce wealth accumulation.
The questions, originally developed by professor Annamaria Lusardi of Stanford University and professor Olivia Mitchell of the Wharton School, are the globally accepted benchmark for evaluating basic financial knowledge which every adult should grasp to have the right level of confidence.
But in the UK, only 28% fully pass the test and four in 10 fall into the poor or very poor categories overall, answering none or one of the questions correctly about how inflation, compounding and risk-diversification works.
Watch the MoneyWeek Talks podcast interview with Rishi Sunak and Kalpana Fitzpatrick where he discusses these core concepts and why everyone can be better with maths.
Rishi Sunak, co-founder of The Richmond Project, stressed that while the lack of financial literacy is not a personal failing, “it is a structural problem with measurable economic consequences – for individuals, for families and for our country”.
How poor is financial literacy in the UK?
When compared to other countries, the UK is by far one of the worst compared to Germany, Switzerland, the Netherlands, Australia, Canada and Finland which have some of the highest levels of understanding of the core concepts.
“The UK is falling behind our competitors. But there’s no reason why we can’t have as good financial literacy as Germany or the Netherlands. Closing this gap must be a priority, not an afterthought,” Sunak said.
The financial literacy gap
The Number Nation study also found that men did better than women when it came to grasping key concepts.
In particular, it found the gap widening in midlife, from around 10 percentage points in early adulthood to 22 percentage points by ages 45 to 54.
But for women, this could mean they end up making poorer decisions at a time when retirement planning, mortgages and childcare costs come heavily into play.
The UK’s gender gap in financial literacy is the second widest out of 30 OECD countries.
Financial education in schools
The UK is set to introduce financial education in schools as part of the national curriculum by 2028.
The Richmond Project said it is working with the Department for Education to help with the development of the new financial literacy curriculum for schools, in particular when it comes to understanding the ‘big three’ – inflation, compound interest and risk diversification.
