What Is Financial Literacy?

Financial literacy is the ability to understand and effectively apply various financial skills, including personal financial management, budgeting, and investing. Financial literacy helps individuals become self-sufficient so that they can achieve financial stability.

Key Takeaways

  • Financial literacy is the ability to understand and properly apply financial management skills.
  • Effective financial planning, properly managing debt, accurately calculating interest, and understanding the time value of money are characteristics of being financially literate.
  • The primary principles of financial literacy include learning how to budget, track spending, effectively pay off debt, and properly plan for retirement.
  • Financial illiteracy contributes to people making poor financial decisions and becoming victims of abusive financial practices.

Understanding Financial Literacy

Financial literacy also involves the proficiency of financial principles and concepts, such as financial planning, compound interest, managing debt, profitable savings techniques, and the time value of money. The lack of financial literacy may lead to making poor financial choices that can have negative consequences on the financial well-being of an individual. Consequently, the federal government created the Financial Literacy and Education Commission, which provides resources for people who want to learn more about financial literacy.

The main steps to achieving financial literacy include learning the skills to create a budget, the ability to track spending, learning the techniques to pay off debt, and effectively planning for retirement. These steps can also include counseling from a financial expert. Education about the topic involves understanding how money works, creating and achieving financial goals, and managing internal and external financial challenges.

Benefits of Financial Literacy

Financial literacy focuses on the ability to manage personal finance matters efficiently, and it includes the knowledge of making appropriate decisions about personal finance, such as investing, insurance, real estate, paying for college, budgeting, retirement, and tax planning. Those who understand the subject should be able to answer several questions about purchases, such as whether an item is required, whether it is affordable, and whether it's an asset or a liability. Financial literacy education should also include organizational skills, attention to detail, consumer rights, technology, and global economics because the state of the global economy greatly affects the US economy.

This field demonstrates the behaviors and attitudes a person possesses about money that is applied to his daily life. Financial literacy shows how an individual makes financial decisions. This skill can help a person develop a financial road map to identify what he earns, what he spends, and what he owes. This topic also affects small business owners, who greatly contribute to economic growth and stability.

Financial illiteracy affects all ages and all socioeconomic levels. Financial illiteracy causes many people to become victims of predatory lending, subprime mortgages, fraud, and high-interest rates, potentially resulting in bad credit, bankruptcy, or foreclosure.

The lack of financial literacy can lead to owing large amounts of debt and making poor financial decisions. For example, the advantages or disadvantages of fixed and variable interest rates are concepts that are easier to understand and make informed decisions about if you possess financial literacy skills. Based on research data by the Financial Industry Regulatory Authority, 66% of Americans are financially illiterate. They lack the basic skills to reconcile their bank accounts, pay their bills on time, pay off debt, and plan for the future.