What Behavioural Economics Has to Say about Financial Literacy

Abstract

Gaps in financial literacy are arguably responsible for significant errors in decision-makingby consumers and investors alike. Unlike the conventional neoclassical economic wisdom,behavioral economics opens the analytical door to the significance of financial literacy fordecision-making. This paper presents evidence on the importance of financial literacy as wellpresenting the different analytical approaches to financial literacy that flow from neoclassicaleconomics and from the different methodological approaches to behavioral economics.Of particular importance is the errors and biases approach, which attributes much offinancial illiteracy to the cognitive shortcomings of the human brain. Whereas the boundedrationality approach focuses on informational gaps (complex and asymmetric information),framing effects, institutional design problems, and human capital deficits (inclusive ofexperiential learning), as key to understanding documented gaps in financial literacy.The behavioral approaches have significant implications for analyses and public policy.