Are mortgage buyers smarter after housing collapse?

A global survey of 15-year-olds show the US still has far to go to prepare the next generation to grasp complex financial products such as mortgages. To prevent another crisis like the one in 2008, young Americans need financial literacy.

The Monitor's View

A global survey of 15-year-olds released Wednesday should serve as an eye-opener on how much young Americans have learned – or not learned – from the 2008-09 financial crisis about how to handle money matters such as buying a mortgage.

Not nearly enough, according to the survey, which tested 29,000 teenagers in 13 wealthy countries two years ago.

In financial literacy, American teens fall far behind their counterparts in many other parts of the world, such as Poland, Estonia, and the Czech Republic. They rank well below the most financially literate of teens, which are in Shanghai, China’s most populous city.

Nearly 1 in 5 American 15-year-olds does not even understand basic finance, such as knowing the difference between “needs” and “wants” or what an invoice is. About 1 in 10, however, is able to grasp difficult topics such as financial risk and consumer rights. Still, that number is low compared with the number of teens in Shanghai who have mastered the most challenging financial literacy tasks: 4 in 10.

The results of the survey, conducted by the Paris-based Organization for Economic Cooperation and Development (OECD), should come as no surprise to the head of a new US agency set up after the Great Recession to help consumers navigate an increasingly complex financial world.

In testimony to Congress last month, Richard Cordray of the Consumer Financial Protection Bureau (CFPB) said:

“In general, financial literacy is something we don’t do enough of in this country.... You can’t send our 18-, 19-year-olds out into the world, with no basis to go on, and no understanding of the kind of big decisions they’re going to be expected to make.”

More than six years after the collapse of the housing market, debate still rages in the United States on who was most responsible for the excessive lending to home buyers – mortgage lenders or the buyers. Much of the finger-pointing has been directed at banks for leniency, carelessness, or outright fraud in handing out far too many home loans. But little attention has been paid to the ignorance of home buyers about the risks and details of their borrowing contracts.

Under US law, everyone is expected to know what all the laws are. Ignorance is no defense if someone is charged with a crime. But that rule does not seem to always operate when consumers apply for financial products such as a credit card or a mortgage. Consumers need to be responsible for their own decisions, says Mr. Cordray, although his new agency is setting up regulations to bring more transparency and clarity to financial products and to prevent fraud or other illegal practices. (The CFPB was set up under the 2010 Dodd-Frank Act.)

Financial literacy has become “an essential life skill,” states the OECD study, because financial services are now readily available and more detailed. “The current and future financial choices faced by today’s youth are likely to be more challenging than those of past generations,” the report says.

In its testing, the OECD finds that student attitudes, such as perseverance and openness to problem solving, are essential to achieving financial literacy. When teens have a bank account, they are more financially literate, the study shows, although holding a prepaid debit card is not associated with greater literacy. Students who receive gifts of money also perform at a higher level.

The survey should help regulators as they apply new rules to financial products. “We didn’t know enough about the mortgage market before the crisis,” says US consumer chief Cordray. “If we had, we might have headed off some aspects of the crisis.”

Now that Americans know how little the next generation knows about financial services, the US needs to put itself on a steep learning curve to prevent another financial crisis. Perhaps the US can take a lesson from the education system in Shanghai.