What can Baseball Teach us about Financial Education?

On a recent flight from Armenia back to Washington, D.C., your correspondent took advantage of the in-flight entertainment to watch Brad Pitt in his 2011 movie, Moneyball. No doubt the story of the success of a small regional (and low-budget) baseball team will appeal to the heart of all true baseball fans. But for the Safe and Fair Finance Blog, some lessons also emerge.

The story’s author, Michael Lewis, is famous for Liar’s Poker, published in 1990 describing Wall Street and the famous investment bank, Salomon Brothers. Anyone who worked in investment banking in the 1980s will find his stories arrestingly accurate.

The basic premise of Moneyball is that players have traditionally been bought and sold based on the wrong criteria. A manager’s decisions about which player to trade for another is based on perception, i.e. the manager’s biases and gut-feel, all of which are based on years of experience but selective recall of that experience. Unfortunately such perceptions are often inaccurate and lead to faulty decision-making. The young assistant to manager of the Oakland A’s baseball team suggests that instead focus be placed on just one data point—the number of times each player reaches a base, called “time on base”. The argument is that the more times a player reaches a base, the higher the probability that the player will move from first base, then to second to third and then home for a run. The more times a player is on base, the more runs will be chalked up and the more likely the team will win the game.

In selecting ball players, managers are often influenced by consensus thinking rather than hard data. Some players look funny when they throw the ball. Some play it safe too often. A once star athlete may have lost much of his power and so is considered ineffective when he still has a lot to give. For one reason or another, some talented players have undervalued qualities. Their market price is based on biases and gut feel. But their value to the team is reflected in the data.

Here Michael Lewis tapped into his experience on Wall Street. Finding tradable assets where the market value differs from the true value—and buying and selling based on the discrepancies—lies at the essence of successful financial investing. Better to buy and sell players using concrete data rather than gut-feel, suggests the young manager’s assistant. For the Oakland A’s in Moneyball, it was a highly successful strategy that changed the way that baseball teams were selected throughout America. It changed the way managers thought about how to win the World Series without busting the budget.

So how can Moneyball help figure out how best to design programs of financial education? Most government officials design economic policies based on a combination of their gut and their interpretation of recent historical experience. However neither is a reliable guide. Instinct is helpful when sudden decisions must be made but economic policy is almost never made in a matter of moments and such gut-feel can lead to poor choices. Better to focus on using concrete data to achieve policy goals. Unfortunately such evidence-based policy-making remains very rare, particularly when related to warm and fuzzy issues such as financial education.

Safe and Fair Finance Blog suggests that financial education programs focus on just two concrete data-points. First, one needs to define a target for success of financial education programs. This might be to achieve a certain level of measured financial literacy among the adult population--or perhaps having your country’s population rank at the top of a survey of financial literacy worldwide.

Second, one needs to identify the critical measure that ensures success in reaching the goal—something equivalent to “time on base”. Is this number of hours of classroom training in personal finance? Currently time in classroom is the most commonly used indicator. Unfortunately it is the least useful of all possible choices. A more helpful target might be the percentage of adult population that maintains bank account (reflecting sufficient public confidence in using keeping extra cash in a bank rather than under the mattress or in a sock). Whatever indicator is selected, detailed and comprehensive statistics need to be collected, published and analyzed.

Only financial education programs are designed based on data of what works will financial literacy measurably improve. Otherwise the best alternative might be to cancel the classes on personal finance and let students enjoy playing baseball.

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Financial Literacy & Consumer Behavior: Can a Nudge work better than a School Book--or a Government Regulation?

Advocates for improved financial literacy suffer from a clear dilemma. Almost everyone supports that idea that all consumers need to be financially literate so that they can make informed decisions. Yet very few of financial education programs have proven effective in improving the levels of financial literacy.

A comprehensive review of the success of financial literacy education programs was conducted by Lauren Willis, Professor of Law at Loyola Law School and published in 2008. In study after study, Professor Willis came to the conclusion that financial education is not worth the investment. She found that education in financial literacy did not make individuals better able to make sound decisions in their use of financial services. Furthermore in some cases, the training provided a false level of confidence, encouraging investment in speculative stock market deals.

However the real problem is that even financially literate consumers can make “bad” economic decisions.

It may therefore be time to think about alternative approaches. In their 2009 book, Nudge: Improving Decisions About Health, Wealth, and Happiness, Richard Thaler and Cass Sunstein show how “choice architecture” can be established to nudge consumers in beneficial directions without restricting their freedom of choice.

Decisions about retirement planning provide a good case in point. Most people do not save enough money for retirement. In the U.S., data was collected of households with a 401(k) retirement account and where the primary earner was between 60 and 62. The study found that median households had saved less than one-quarter of what is needed to maintain income at the 85% pre-retirement level (according to data compiled by the Federal Reserve and analyzed by the Center for Retirement Research at Boston College for The Wall Street Journal.)

However a 2007 paper by the Vanguard Center for Retirement Research found that where new employees are automatically signed up in employer-supported pension plans (i.e. the 401(k) defined-contribution matching plans found in the U.S.), 86 percent stay in the plan, even when they have the option to opt out and withdraw from the plan. By contrast, when new employees are informed about the corporate pension plan and merely invited to join, only 45 percent do so. However the employees that were automatically enrolled were three times more likely to allocate all of their contributions to the default investment fund than were those investing in voluntary plans (67% versus 21%).

The implications are obvious. Since almost everyone will need a pension plan when they retire, the “default” option should be to register all new employees in the plans. But more still will be needed. The U.K. provides some intriguing ideas.

With Professor Thaler and a U.K.-based research team, the U.K. Government has established a Behavioural Unit Team (BIT a.k.a. the Nudge Team). They have not yet started working on consumer protection in financial services but their annual report for the first year provides some interesting ideas that might be applicable for financial consumer protection.

On public sector reform, BIT proposes two approaches. First, BIT suggests using transparency and feedback loops from users. Comments from other consumers can have a powerful impact on selection of choices as anyone who has used eBay, Amazon or Yelp can attest. Safe and Fair Finance Blog suggests that the difficulty is to ensure that feedback loops are not abused—by disgruntled former employees or the marketing staff of competitors. However well-designed consumer feedback sites can help consumers express their views of the quality of the customer experience in buying and using financial services and products.

Second, BIT suggests that whistle-blowers be encouraged. Regulators can be blind to the problems that can only be seen from the inside of a business or service. Providing rewards to whistle-blowers can help bring the issues to the surface. The amount of the rewards should be based on evidence that allows for the identification of significant harm to consumers. Safe and Fair Finance Blog suggests that encouraging whistle-blowers in the mortgage brokers to come forward might have helped save millions of consumers from toxic subprime borrowings.

Cutting red tape and reducing regulation is a goal for all governments. Such efforts are more likely to succeed when policy-makers (and industry and consumers) can identify an alternative process that delivers the same result—or better.  Safe and Fair Finance Blog suggests that both ideas from BIT might prove to be powerful not just for public sector reform but also for improvements in consumer protection related to financial services.

Safe and Fair Finance Blog would like to thank Tim Harford (a.k.a. the Undercover Economist) of the Financial Times for his opinion article about the Nudge Team and their valuable work.

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Financial Education in Pakistan: Will it work to increase financial inclusion?

For all its popular support, financial education needs to be very carefully evaluated. As part of a nationwide program launched last month, the central bank of Pakistan (known as the State Bank) started a pilot financial education program targeting poor and marginalized populations. About 50,000 low-income households will receive training in six areas: (1) budgeting, (2) savings, (3) investments, (4) debt management, (5) financial products, including branchless banking, and (6) consumer rights and responsibilities. The training materials will be translated into the national language as well as the five main regional languages, Urdu, Sindhi, Punjabi, Pushto and Balochi. Following completion of an independent assessment, the program will be expanded to 500,000 beneficiaries.

The training programs will be complemented by consumer awareness campaign using such novel approaches as street theater, board games, comic strips and activity-based competitions. Website and media campaigns will also be used.

The issues are important for financial inclusion. The State Bank has found that only 12 percent of Pakistani households use formal financial services, with the balance relying on unreliable informal arrangements. Of those outside the formal financial system, 40 percent cite lack of understanding of financial products as the main reason for not using financial services.

Safe and Fair Finance Blog supports this initiative by the State Bank of Pakistan but recommends that its impact be carefully evaluated. Research by Shaun Cole, Thomas Sampson and Bilal Zia on effectiveness of financial education programs show that low-income households benefit from basic financial training. However financial education is generally an expensive process with unclear results. Cole et al found that a more cost-effective approach is to give low-income households a small amount of money – if they open a basic bank account. All this suggests that the evaluation by an independent third-party will be a critical part of making the nationwide program as effective as possible. That assessment should look at more than just the issue of whether the trainees better understand financial products. The evaluation should also try to determine if households receiving training in personal and household finance are more likely to use formal financial services that those not receiving such training.

However financial education cannot solve problems due to weak regulation. Safe and Fair Finance Blog recommends that a systemic review of the financial consumer protection laws and regulations compared to international practice also be conducted and published.

* Cole, Shawn, Thomas Sampson, and Bilal Zia. 2009. “Financial Literacy, FinancialDecisions, and the Demand for Financial Services: Evidence from India and Indonesia”. Harvard Business School Working Paper 09-117

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Can Financial Education save Capitalism? The View after Eight Centuries of Financial Folly

Readers of Safe and Fair Finance Blog will be pleased to see intellectual support from an unexpected source. Kenneth Rogoff was formerly head of economic research of the International Monetary Fund. He is now professor of economics at Harvard University. In 2009, he co-authored with Carmen Reinhart the ground-breaking book on financial crises, This Time is Different: Eight Centuries of Financial Folly. Their book has become the bible of economic long-term forecasters.

In his February 1^st letter to the Financial Times, Professor Rogoff comments on recent commentaries about the future of capitalism. He notes that. “Entrepreneurs who have earned billions, world leaders who have spent trillions, journalists, academics, and even ‘Occupiers’ have all weighed in.”

He notes that even China’s recent economic successes are not sustainable. “Creating impressive infrastructure eventually runs into diminishing returns, as evidenced by the history of Japan and the Soviet Union,” and he might have noted the U.S. in the 19^th century.

Professor Rogoff also emphasizes the point made by Martin Wolf that “contemporary capitalism, which does such an extraordinary job of generating a cornucopia of private goods, is far less effective at generating public goods, whether it be education, infrastructure, environment or financial stability.”

The question is how to strike a balance that creates a wealth of both private and public goods. His solution is education. He points to the arguments made by David Rubenstein of the current inadequacies of primary and secondary education, as well as the need to re-educate and retrain adults.

However Professor Rogoff goes much further, arguing that, “Societies need to find ways to make adult education, including economic and financial literacy, far more available and far more compelling… The idea that the masses are indifferent to education, and that any broader notion of literacy beyond the three R’s (reading, writing and arithmetic) is a hopeless cause, is nonsense.” He further notes that, “As someone who has spoken to all kinds of people in the wake of the financial crisis, my sense is that most citizens are starved of information, and would consume it hungrily if offered in a palatable form.”

Starved of information on economic issues and personal finance—that is the plight of the vast majority of the population is today’s economies. However it need not be the case.

Professor Rogoff lays out a few suggestions: (1) attractive web learning platforms, (2) expanded public radio and television, and (3) greater educational choice for children. These are all useful programs but far more is needed. Follow Safe and Fair Finance Blog for more ideas.

Safe and Fair Finance Blog argues that financial education, contributing to improved levels of financial literacy, is an essential element in staving off the next financial crisis. Without both improved financial literacy and financial consumer protection, the next decade will become the subject of Professor Rogoff’s next book, How we Failed to Learn the Lessons of the Last 80o Years of Financial Crises.

As Professor Rogoff concludes, “Improved education alone will not resolve the flaws inherent in today’s capitalism, but it is an essential first step down any path to a solution.” Safe and Fair Finance Blog can only agree.

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THAILAND: New Financial Consumer Protection Center

Financial products have become increasingly complex and difficult for consumers to understand. While most work has been done in developed countries, emerging markets are also taking steps to help financial consumers. On January 13, 2012, the Bank of Thailand announced the creation of a special center – the Financial Consumer Protection Center (FCC) – to help financial consumers in Thailand.

The FCC will operate as a “one stop” shop for consumer complaints about the services of financial institutions under the Bank of Thailand’s supervision as well as the securities operations of the Bank of Thailand itself. In addition, the FCC has a financial education role with three objectives: (1) equip consumers with financial knowledge in order to raise awareness and understanding of their rights and responsibilities, (2) avoid becoming victims of financial fraud, and (3) enable consumers to make informed decisions about financial products and services.

The Bank notes that about 2,600 consumer complaints are filed annually, with up to 91 percent of the cases solved according to the Bank’s statistics. The most common complaints concern scams related to call centers and debt restructuring.

The FCC has set itself ambitious customer service targets, with complaints to be addressed within 15 days (versus 30 days in the past) although complex complaints may take more time, according to the FCC. Consumers will have access to three ways of contacting the FCC: (1) a telephone hotline, (2) email submissions and (3) postal services.

For financial education, the FCC plans to join forces with the Ministry of Finance, the Securities and Exchange Commission, the Stock Exchange of Thailand, the Thai Bankers' Association as well as the media.

Safe and Fair Finance Blog strongly welcomes this action by the Bank of Thailand and recommends that the complaint data be carefully analyzed – and the analysis published. Such data can provide valuable insight into the sources of the troubles for financial consumers. The issues might include not only fraudulent practices but also cases where consumers could not obtain enough information to make informed decisions — or where the information was too complicated to be easily understood. Where consumer complaint data is published in the media, the data brings the additional benefit of helping industry associations and consumer organizations focus their efforts related to consumer protection.

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