Optimal Financial Knowledge and Wealth Inequality

Abstract

We show that financial knowledge is a key determinant of wealth inequality in a stochastic lifecycle model with endogenous financial knowledge accumulation, where financial knowledge enables individuals to better allocate lifetime resources in a world of uncertainty and imperfect insurance. Moreover, because of how the U.S. social insurance system works, better-educated individuals have most to gain from investing in financial knowledge. Our parsimonious specification generates substantial wealth inequality relative to a one-asset saving model and one where returns on wealth depend on portfolio composition alone. We estimate that 30–40 percent of retirement wealth inequality is accounted for by financial knowledge.

Financial literacy, financial advice, and financial behavior

“…Moreover, individuals are heterogeneous in various dimensions. Lusardi and Mitchell (2013) show in a theoretical model that due to this heterogeneity, not everyone should change its behavior after receiving standardized financial training.…”

Does Financial Education Impact Financial Literacy and Financial Behavior, and If So, When?

“…Thus, in terms of welfare, positive education effects could be balanced with the true costs of the intervention (see also Lusardi et al 2016). Second, the discussion of effectiveness of financial education policy should also consider principal alternatives to financial education in general.…”

Locus of control and savings

“…Financial literacy, however, is best viewed as an important human capital investment rather than an innate trait (see Jappelli & Padula, 2013). In particular, Lusardi et al (2013) argue that endogenous investments in financial knowledge have the potential to explain a large proportion of the inequality in wealth.…”