CHAPTER – I

INTRODUCTION
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CHAPTER – I

INTRODUCTION

“An investment in knowledge always pays the best interest”

– Benjamin Franklin

1.1 Introduction

Financial Literacy is the ability to understand how money works in the world
and take an informed as well as a judicious decision with regard to all financial
activities. A person who is financially literate knows how to earn, manage and invest
money. He is familiar with financial products and applies his knowledge to make the
best use of them. Recent developments have made financial education and
awareness increasingly important for financial wellbeing.

Remund (2010) indicated that financial literacy can be understood by

focusing on five main domains. These domains are knowledge about financial
concepts, ability to communicate about financial concepts, aptitude in managing
personal finances, ability in taking appropriate financial decisions and confidence in
planning effectively for future financial needs. One can therefore say that financial
literacy is the key determinant of how well people make financial decisions and how
well they execute their financial transactions. As the world becomes more
financially interconnected and complex, the average individual is faced with the
challenge of making highly sophisticated and often irreversible financial decisions.
People have always been responsible for managing their own finances on a day to
day basis such as to save for a new home, set aside for a child’s education, spend on
a holiday or save for retirement and medical emergencies. The lack of knowledge of
a large array of available financial instruments may result in poor decision making
and lead to costly errors. Adequate financial literacy however can enhance people’s
skills and abilities to make more informed choices. It is important to invest in
financial knowledge as it would help in understanding important concepts such as
compounding interest rates and the effects of inflation along with nuanced concepts
such as risk diversification. Financial literacy is critical in retirement planning too
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as life expectancy is increasing and individuals are experiencing longer periods of

retirement. Studies show that those who calculate how much they need to save for
their own retirement reach retirement age with three times the wealth of those who
did no such calculations.

“Financial literacy is an issue that should command our attention because

many people are not adequately organizing for their education, healthcare and
retirement.” - Ron Lewis

The information available on consumer financial literacy shows that

individuals generally lack an adequate financial background or understanding to
navigate today’s complex market and unfortunately they also generally believe that
they are far more financially literate than they actually are. The level of financial
literacy tends to vary according to education and income levels, but the evidence
shows that highly educated consumers with high incomes can be just as ignorant
about financial issues as less educated, lower income consumers. Uneducated
consumers may fail to make good choices and have difficulty comprehending
financial instruments and face increased risk in solving their financial problems over
a lengthy time horizon. Nevertheless in such situations, financial literacy can serve
as a remedy and help in reducing financial concerns.

Lusardi and Mitchell (2007a, 2007b) and Lusardi and Tufana (2009) found
that low levels of financial literacy results in an inability to understand basic
financial concepts and poor judgment in borrowing decisions and affects retirement
planning and hence leads to poor financial management. Poor financial decisions
can further lead households in debt and ultimately lower living standards.

According to a global financial literacy survey conducted by Standard &

Poor among 158 Countries of the world, it was found that countries with higher
literacy rates include Australia, Canada, Denmark, Finland, Germany, Israel,
Netherlands, Norway, Sweden, and the UK, where more than 65% of adults are
financially literate.
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USA being a well- developed country was not ranked among the top ten and
had only 43% financial literacy rate. South Asia is home to countries with some of
the lowest financial literacy scores, where only a quarter of adults are financially
literate. Singapore has the highest percentage of financially literate adults (59%) in
Asia. India was among the least financially literate countries and was ranked 121
with just 24% being financially literate. While the number is much lower than the
worldwide financial literacy rate, it’s roughly in line with the BRIC and South Asian
nations.

Another survey of Financial Literacy among Students, Young Employees

and the Retired in India conducted by Agarwalla et al (2013), IIM-A supported by
CITI Foundation reveals that high financial literacy is not widespread among
Indians, where only less than a quarter of the population have adequate knowledge
on financial matters. There is lack of understanding among Indians about the basic
principles of money and household finance, such as compound interest, impact of
inflation on rates of return and prices, and the role of diversification in investments.
Clearly, the statistics are disappointing. The lack of essential knowledge on financial
matters and inability to manage personal finance not only affect households, but
make an economy as a whole suffer too. “The number one problem in today’s
generation is the lack of financial literacy”- Alan Greenspan

For emerging economies, rapid development has given access for financial
services to a large number of consumers, many of whom have only a limited
experience with formal financial systems. Financially educated consumers can help
ensure that the financial sector makes an effective contribution to real economic
growth and poverty reduction.

Financial literacy is also crucial for more developed economies, to help

ensure consumers save enough to provide an adequate income in retirement while
avoiding high levels of debt that might result in bankruptcy and foreclosures.
“People with low financial literacy standards are often unable to take their ideas and
create assets out of them.”- Robert Kiyosaki
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Countries are increasingly aware of the importance of financial education

and are already providing a variety of financial education programmes, ranging from
providing information through web sites and pamphlets or brochures to training
courses and media campaigns. They cover issues such as credit, insurance,
investment and retirement saving.

Higher financial literacy leads to greater financial wellbeing and less

financial concern. (M.K. Taft et al 2013). Thus it can be rightly said that ‘financial
literacy is an essential life skill” (G20 OECD/INFE 2017). Financial literacy can
make a notable difference in a person life and become the foundation stone for their
financial well-being.

The Organisation for Economic Co-operation and Development defines

financial literacy as –“A combination of awareness, knowledge, skill, attitude and
behaviour necessary to make sound financial decisions and ultimately achieve
individual financial well-being.”

It is pertinent to understand that financial literacy is a holistic concept which

includes various dimensions such as financial knowledge, financial behaviour and
financial attitude. A person cannot become financially literate by just acquiring the
basic knowledge or understanding of financial concepts. Rather in addition to
financial knowledge, one has to develop a positive financial attitude or a healthy
frame of mind towards money and money management and ultimately exhibit good
and desirable financial behaviour. A Combination of these aspects will help make an
individual financially literate, thereby resulting in sound financial well-being and
lesser financial concerns. Financial well-being is the ultimate requirement of an
individual, as it is a state where in, a person can enjoy financial security and
freedom of financial choice in the present as well as the future.

1.2. Need for study

Financial literacy is an essential pre-requisite for ensuring consumer

protection. The low levels of transparency and the resulting inability of consumers
in identifying and understanding the fine-print from a large volume of information
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leads to information asymmetry between the financial intermediary and the

consumer. In this context, financial education can greatly help the consumers to
narrow this information divide.

Every person associated with the financial system needs to be financially

literate. This includes all users of financial services, be it the financially excluded
resource-poor, the lower and middle income groups or the high net worth
individuals; the providers of services; and even the policy makers and the regulators.

For the resource-poor population, which operates at the margin, vulnerability

can be profound due to constant financial pressures. House hold cash management
can be challenging under difficult circumstances, with few resources to fall back
upon. Financial literacy efforts, in case of such population groups, essentially,
involves educating them about the benefits of being part of the formal financial
system and managing short term volatility in incomes and meeting unexpected
emergencies without getting trapped in unnecessary debt. For example, a study by
NCAER and Max New York Life has shown that in India, around 60 per cent of
labourers held cash at home, where there is no safety, get no financial return on it
and tend to borrow from money lenders at high rates of interest. This results in a
vulnerable situation to save money for those who are economically laid back. In
order to educate these excluded sections; focus needs to be on positively modifying
deeply anchored untoward behavioural and psychological factors that are major
barriers to participating in the financial system.

For the middle and lower-middle income groups who are financially
included, financial literacy efforts should aim at enhancing their knowledge about
the market and new products/services. The majority of the population falls under
this category and participates in financial markets as either savers or borrowers or
both. For instance, there is a large section of our population that has a bank account
but refrains from availing any other investment alternatives such as mutual funds or
participate in the capital market on account of lack of knowledge. Financial literacy,
in such cases, would focus on creating awareness about investments in the banking
sector, the way the capital market functions and also about the fact that the equity
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market provides relatively higher returns as compared to other investments, over a

longer time horizon.

Similarly for high net worth individuals, considerable knowledge about the
financial markets, new and innovative products and instruments is important as it
helps them in making better use of the available avenues in the financial markets.
This knowledge is also useful for fetching greater returns from their investments in
the market and to avail credit at relatively cheaper rates.

There is need for lot more research on financial literacy in India as too little
is done on financial literacy. There is an urgent need for government policy
measures to improve financial literacy: Fortunately, knowledge deficits are easier to
address than problems in attitude and behaviour. The behaviour and attitude of the
population provide a strong base to build a financial literacy programme focused on
improving knowledge of different age groups and gender as India is a vast country
with many social and economic disparities. Equally, it is important to build
regulatory frameworks that improve the delivery of financial services and financial
advice to serve the more complex and challenging needs of the present generation.

1.3. Significance of the study

Financial literacy is a blend of knowledge and financial credit and debt

management skills that are necessary to make responsible financial decisions.
Financial literacy decisions impact daily life and are unavoidable. It is integral for
every family to draw budgets, provide for their children’s’ education, buy a home,
save for retirement and for health care. Lack of financial literacy adversely affects
these decisions and thereby has an undesirable impact on the economic situation of
the family. Recent scenario of the Indian financial market shows that there is a
greater need now, than ever before to be financially aware of the numerous financial
instruments, avenues and service providers to successfully navigate through the
complexities of the financial system. Consumers are facing the burden of financial
planning by themselves as the role played by the government and employers is
insufficient. Retirement planning is an apt example of this shift. Earlier pensions
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were offered by the government to its employees, and relieved the individual from
retirement planning. However after the new millennium the government has done
away with retirement pension and the stress is now on the individual to plan and
provide for retirement. This means that planning for the future has to begin at an age
stage and the benefits of such planning has to be derived for longer periods of time
due to increased life expectancies. In developing economies like India the
government does not provide any form of social security to its citizens. A sizeable
population is also found to be living below poverty line. The onus is thus on the
individual to provide for himself and his family. One has to be financially
knowledgeable to be able to sustain in the composite financial network. The
financial environment is dynamic and open to more participants on the supply side
as well as the demand side. There is a broad spectrum of commercial banks, mutual
funds, stocks, credit card companies, mortgage companies and insurance firms
which offer customised options to consumers. This has resulted in too many choices
and a lot of scepticism for the consumers. In addition to these, the advancements and
innovation in technology have transformed every aspect of processing, marketing
and delivery of financial products and services. Financial literacy plays a significant
role in helping to tackle and cope with each of these conditions in the financial
system. “Financial literacy is just as important in life as other basics.”- John W
Rogers Jr.

Financial illiteracy can have adverse effects to individuals, which in turn

affects the society at large and may result in economic crisis. Lack of financial
awareness among individuals will result in limited access to financial services. This
may lead to people becoming financially excluded over time, if they are not able to
adapt to the changing financial environment. There is a chance of misallocation of
personal wealth due to inadequate financial knowledge. People tend to experience
disadvantages in personal economic development. Financial worry and anxiety
could affect ones health. When an individual is bogged down with stress and worry
it will reflect in his efficiency and decrease the productivity in work place. The lack
of efficient management of funds leads to increased debt and causes over
indebtedness. Cost of availing credit becomes expensive, and timely repayments
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may not be possible. This affects the financial institutions and results in slower
development of financial markets. A slack is witnessed in the economy. This may
cause an economic crisis in the long run if left unattended to. Ultimately the
government may need to intervene and take up the economic burden; this again
slows down the economic progress of the country as a whole. To improve financial
literacy and to impress upon continuous enhancement of financial knowledge and
exhibit a healthy financial behaviour is pertinent for every individual to build a
better tomorrow for one self and the country at large.

1.4. Practical Implications of the Study

Financial literacy is considered as an important component for achieving

financial stability. The importance of financial literacy in recent years has drastically
improved due to the advancements in financial markets. For individuals financial
literacy is of prime importance. In India a large section of the population remains
out of the formal financial setup. Providing financial education will help include
them into the system. For those individuals already included in the system
continuous upgrading of financial knowledge is essential in order to sustain with a
healthy financial condition. Students need to be taught the principles of basic
finance and the importance of a healthy financial behaviour. This will minimise
student debts on education loans. These youngsters who would become the future of
the country will be able to become better citizens as they would have started
receiving financial education at a young age, which forms the base of a strong
financial system. Adults need to be financially responsible and make rational
decisions for the well-being of themselves and their family. Providing financial
education to adults improves the quality of financial decision making resulting in
tremendous benefits to the individuals. Senior citizens can enjoy retirement benefits
if they properly plan for their financial future by enhancing their financial
knowledge and skills. Increased financial literacy will result in lesser financial
concern and greater financial well-being. “A big part of financial freedom is having
your heart and mind free from worry about what –ifs of life.”- Suze Orman.
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Improved levels of financial literacy among individuals will also help service
providers to offer high quality financial instruments, investment options and
customised services. When a good level of financial understanding prevails among
the individuals, the banking sector, insurance sector, stock markets, NBFC’s and
pension fund managers will be able to perform efficiently. Costly financial errors by
individuals can be avoided. The country will be driven by a healthy saving and
investment behaviour. The cost of credit and rate of inflation can be curtailed as
consumers start making informed financial decisions. The regulatory authorities and
policy makers can re-engineer financial instruments and services based on the
improved needs of the people due to the increasing levels of financial awareness. As
citizens become financially responsible a national financial crisis may be averted.
Good economic stability can be witnessed in the country. Therefore it can be rightly
said that financial literacy empowers consumers to improve their financial well-
being. Financial literacy thus plays an important role in reducing economic
inequalities and decreasing information asymmetry between financial intermediaries
and the consumers. As told by Bilal Zia a member of the Wold Bank Development
Research group “Financial literacy can be an effective tool when delivered at the
right time to the right audience through the right channels and in combination with
other interventions”.

1.5. Research gap

An examination of the previous studies on financial literacy has revealed that

a number of studies have focused only on one dimension of financial literacy;
namely financial knowledge and considered the score derived from financial
knowledge as a proxy for assessing the level of financial literacy. Few studies have
considered analysing a combination of either financial knowledge and financial
behaviour or financial knowledge and financial attitude to comment on the financial
literacy levels. However select few studies have included all three dimensions of
financial literacy i.e. financial knowledge, financial attitude and financial behaviour,
to assess the financial literacy of an individual. The review also brings to light that
various studies focused on the impact of financial knowledge on only specific
financial behaviour such as retirement planning or stock market participation or
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portfolio management or debt management or self control and indebtedness. The

present study therefore uses all the three dimensions of financial literacy; financial
knowledge, financial attitude and financial behaviour, to assess the financial literacy
of an individual. Each of the dimension is further categorized into various factors in
order to carry out an in depth and robust study. This gives a holistic approach in
assessing the financial literacy.

Many studies have also analysed the influence of specific demographic

factors such as gender, education or age on financial literacy. The present study
takes into account all socio demographic variables and examined its influence on
financial literacy. The role of over confidence in financial literacy is rarely
considered in previous studies, this gap is taken note of and the present study
attempts to empirically measure financial knowledge over /under confidence and
bring to light the role of various demographic factors that influence financial
knowledge over/under confidence.

The ultimate aim of financial literacy is to result in financial well-being.

Empirical studies contributing to analysing the relationship between these two
concepts is minimal. Therefore the emphasis of the present study is to develop a
model to bring out the implications that financial literacy has on financial well-
being.

Overall the concept of financial literacy has gained importance and

recognition due to the ever expanding global economy. For a country like India
which has a huge population, majority are either struggling to make informed
financial choices and paddle through a complex financial environment or are yet to
be recognised and included (financial inclusion) into the financial system, the focus
needs to be on financial literacy. However in comparison with other countries
where research on financial literacy has gained momentum, only few studies have
been undertaken in this relatively new field in India. Therefore it is felt that the
present study would be able to throw more light on the level of financial literacy of
individuals in India thereby trying to minimise this gap. This in turn can help policy
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makers, financial institutions and the government to take necessary steps to enhance
the financial literacy of the citizens of this country.

1.6. Originality of the study

Financial literacy has started gaining prominence world over and this has
resulted in the need to undertake studies to evaluate and improve individual financial
literacy. In India however studies on financial literacy are still in its infancy and
research on financial well- being is just handful. Therefore the present study intends
to analyse the implications of financial literacy on financial well-being. In this
context the present study has taken into account the Indian scenario and designed a
questionnaire to measure the financial knowledge, attitude, behaviour and well-
being of individuals. Though several questions have been adapted from previous
research, most of these statements have been modified for the Indian context. Based
on the literature available a composite model for financial well-being is proposed in
the study. This study also attempts to measure financial knowledge, over/under
confidence in a distinctive style.

1.7. Objectives of the study

The main purpose of the study is to analyze the implications of financial

literacy on financial well-being.

The following objectives are constructed to fulfil the prime motive of the
study.

1. To assess the level of financial knowledge and analyse the relationship

between socio-demographic characteristics and financial knowledge.

1.(a) To assess the financial knowledge over confidence and under

confidence.

2. To assess the level of financial attitude and analyse the relationship between
socio-demographic characteristics and financial attitude.
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3. To assess the level of financial behaviour and analyse the relationship

between socio-demographic characteristics and financial behaviour.

4. To assess the level of financial well-being and analyse the relationship

between socio-demographic characteristics and financial well-being.

5. To analyse the inter-linkages between financial knowledge, financial

attitude, financial behaviour and financial well-being.

6. To examine the impact of financial literacy (financial knowledge, financial

behaviour and financial attitude) on financial well-being.

1.8 Hypothesis

The following hypotheses have been framed in the study:

Ho 1. There is no significant difference between demographic characteristics of

gender, age, educational qualification, marital status, occupation, work profile,
monthly income and financial knowledge.

Ho 2. There is no significant relationship between demographic characteristics of

age, gender, education, income, and financial knowledge – over confidence / under
confidence

Ho 3.There is no significant difference between demographic characteristics of

gender, age, educational qualification, marital status, occupation, work profile,
monthly income and financial attitude.

Ho 4. There is no significant difference between demographic characteristics of

gender, age, educational qualification, marital status, occupation, work profile,
monthly income and financial behaviour.

Ho 5. There is no significant difference between demographic characteristics of

gender, age, educational qualification, marital status, occupation, work profile,
monthly income and financial well-being.
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Ho 6. There is no significant relationship between financial knowledge, financial

attitude, financial behaviour and financial well-being.

Ho 7. There is no significant impact of financial literacy on financial well-being.

1.9.Limitations of the study

The present study throws light on the level of financial literacy of

individuals, in the urban area of Chennai. However a larger sample could have
helped to draw a more emphatic conclusion. An in depth evaluation of advanced
financial knowledge on various financial concepts, the element of behavioural and
psychological biases, and the financial portfolio of the individual could not be
considered in greater detail, as the present study attempts to provide a holistic
measure of financial literacy by converging three main dimensions (i.e) financial
knowledge, financial attitude and financial behaviour of an individual. Therefore a
particular concept could not be distinctively focussed upon. An attempt is made to
measure financial knowledge over/under confidence in the study; however the
impact of such over/under confidence on the financial well-being is not considered.

1.10 Research Methodology

The study is conducted among individuals in the city of Chennai. The study
is based on both primary data as well as secondary data. Primary data is used to
assess the financial knowledge, and understand the financial attitude and financial
behaviour of the respondents. The impact of financial literacy on financial well-
being is also examined. The secondary data pertains to theoretical knowledge with
regards to financial literacy and financial well-being.

1.10.1 Sources of data

The primary data is collected through a structured close ended questionnaire

containing statements with trichotomous and multiple choice questions. The
secondary data is compiled from books, journals, periodicals, reports and websites.
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1.10.2 Questionnaire Design

The questionnaire consists of five parts, the first part ascertains the
demographic factors, the second part consists of statements relating to various
concepts of financial knowledge, the third part consists of statements relating to
financial attitude, the fourth section contains statements relating to financial
behaviour, and the last section consists of statements relating to financial well-being.
The questionnaire consists of 80 questions of which 7 elicit demographic
information, 20 questions measure the level of financial knowledge, where
respondents have to answer “yes” “no” or “don’t know”, one question on self-
assessed literacy, 18 questions financial attitude, 24 questions on financial behaviour
and 10 questions on financial well-being of the respondents all on Likert’s 5 point
scale.

To measure financial knowledge, several questions used in the questionnaire

are adapted from Lusardi and Mitchell (2007a, 2007b, 2007c, 2008, 2009,2011). In
addition the study uses questions designed by Sabari, Mohamad Fazli Fazli (2011).
Questions used to analyse the financial attitude and financial behaviour are adapted
from the OECD INFE (2011) and OECD INFE supplementary questions (2012) on
financial literacy designed by A. Atkinson and F. Messy. In addition questions are
redesigned from Mohamed E Ibrahim and Fatima R Alqaydi (2013). To understand
financial well-being questions derived by the Consumer Financial Protection Bureau
have been used in the study. In addition to the above adaptations, additional
questions have been added in each of the sections of the questionnaire to have a
comprehensive understanding on financial literacy by taking into account the Indian
scenario. Information from various bulletins published by the RBI and commercial
banks are also used to frame questions in the present study.

1.10.3 Sample Size

The researcher circulated 1000 questionnaires in different geographic bases

of Chennai and was able to derive 875 of them. Out of these, only 770 were found
usable for research. Hence the sample size is 770.
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The data was collected through stratified sampling method. The population
was divided into two strata. One stratum consisted of individuals who had a non
financial work profile and the other stratum consisted of those with a financial work
profile. This was done so to ensure an unbiased result while assessing the level of
financial literacy of the individuals. The sample had a fair representation of various
demographic constructs such as gender, age, occupation, education, income, and
work profile.

Table 1.1 : Region wise distribution of questionnaire

No of No of No of questionnaires
Work Profile questionnaires questionnair found usable for the
distributed es received study
Non financial work
550 490 412
profile
Financial work
450 385 358
profile
Total 1000 875 770

1.10.4 Pilot Study

A pilot study was conducted with a sample size of 100 to test the reliability
and validity of the statements given in the questionnaire. The reliability is confirmed
through Cronbach’s Alpha test. The computed Cronbach Alpha values of all the
statements are given in the following table:

Table 1.2: Cronbach Alpha for statements in questionnaire

No of Cronbach
Statements Range
statements Alpha
Financial knowledge Yes/No/don’t know 20 0.867
Self assessed financial
1-5 1 0.912
knowledge
Financial attitude 1-5 18 0.856
Financial behaviour 1-5 24 0.810
Financial well-being 1-5 10 0.769
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From the above table it is found that all Cronbach Alpha values are greater
than 0.70 for the sample size of 100.It implies that the statements used by the
researcher in the research instrument are highly reliable and can be used for the main
study.

1.10.5 Data Analysis

The primary data collected through a structured questionnaire is subject to

statistical analysis using SPSS 23 version (Statistical Package for Social Sciences)

1. Simple Percentage Analysis is used to describe the frequency of profile of

the respondents.

2. Confirmatory Factor Analysis is found useful to reduce the variables into

predominant factors.

3. Linear Multiple Regression Analysis is exploited to find the influence of

independent variables on dependent variables.

4. Pearson’s correlation is used to assess the strength and direction of the linear
relationship between variables

5. Parametric T Test and Analysis of Variance are appropriately used to

compare the variables in the research.

6. Non Parametric Chi Square Analysis of Association is found useful to

estimate the influence of an independent variable on multiple dependent
factors.

7. Structural Equation Model is brought to bear upon the problem of

establishing the dependency relationship among variables.
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1.11 Chapter Arrangement

The thesis is to be presented in six chapters.

Chapter I deals with an introduction to financial literacy and financial well-

being, need for study, significance of the study, practical implications of the study,
gaps in literature, originality of the study, objectives of the study, limitations of the
study and the methodology.

Chapter II deals with a review of the previous research contributions on

various facets of financial knowledge, financial knowledge over/under confidence,
financial attitude, financial behaviour, and financial well-being.

Chapter III presents the conceptual framework of financial literacy

(financial knowledge, financial attitude and financial behaviour) and financial well-
being. An insight on the global and Indian scenario on financial literacy is presented.
A model is proposed to understand the implications of financial literacy on financial
well-being.

Chapter IV analyses the level of financial knowledge, financial knowledge

over/under confidence, financial attitude and financial behaviour and their
relationship with various socio demographic characteristics. An overall measure of
financial literacy is assessed.

Chapter V analyses the level of financial Well-being and investigates the

inter linkages among financial knowledge, financial attitude, financial behaviour and
financial well-being. It also examines the impact of financial literacy on financial
well-being.

Chapter VI presents the summary of findings along with areas of concern,

offers suggestions, scope for further research and conclusion.