Financial literacy and financial education are not the same thing.
Financial literacy is the intuitive idea about how money works. The important elements are the idea of exchanging value for money. Value equals time, skill, risk, expertise, intuition. You cannot have more money than you have earned unless someone else who earned it gave it to you.
The second aspect of financial literacy is the understanding of how money moves in time. Borrow means I can spend it before I earn it. Saving means earn it first, spend it later.
There are special tools for transferring in time. These tools are what most financial education is about. Debt lets you spend money before you earn it. Investing lets you spend it later. Both have interest. One kind works for you, one works against you. All financial things have an element of compound interest built in. More emphasis should be placed on how compound interest works.
So far financial education is more about the tools, like mortgages, credit cards, investments, insurance, and banking. Some deal with limits like income taxes, fees to specialists and risk of loss.
Tools cannot define literacy. It is not so different from trying to write poetry with a dictionary and a grammar textbook, and no feel for the language.
A young person, or an older person who was away the day they showed the people literacy, must begin with three ideas.
- You can only spend it once. When you buy something with borrowed money, the spending has happened. When you earn the money later, you cannot spend it again.
- Money can be confusing. You should compare what you are spending to what it took to get the money. For someone with take home pay of $20.00 per hour, a pair of Nike Jordan Air Retro 7 for the kid might be 9 hours of effort and skill. That somehow seems too much. Monday for a pair of shoes? Really!
If a child had to weed the garden for half an hour to get enough money to buy a Baskin-Robbins ice cream cone, would they do it? It is important that they learn the “effort for money” equals “money for what they want” equation. Ignoring the money part, that means effort = thing. If you do it another way, money becomes some magical thing that is not intuitive.
- There is no way to get something for nothing. If you get something for nothing, someone else gets nothing for something.
Knowing everything there is to know about financial tools will not let you get it right unless you know how money works.
- You have to earn it before you spend it.
- Anything you spend you cannot save.
- Anything you lose you cannot spend or save.
- Borrowing is just a call on your future efforts.
Be upfront with children. Help them to understand how much you earn and how it must be used. Balance. An example is a wonderful form of explanation.
Thanks to Port Hope financial advisor, Johnathon Racine for sending me this article from the New York Times. Why You Should Tell Your Children How Much You Make. it is worth a thought.
Don Shaughnessy is a retired partner in an international public accounting firm and is presently with The Protectors Group, a large personal insurance, employee benefits and investment agency in Peterborough Ontario.