Financial literacy is about knowledge. And knowledge is power.
According to Wikipedia: “Financial literacy is the possession of the set of skills and knowledge that allows an individual to make informed and effective decisions with all of their financial resources.”
And that “people with appropriate financial literacy training make better financial decisions and manage money better than those without such training.”
So, financial literacy is an understanding of the key areas of personal finance, such as budgeting, financial management, insurances and investing. It’s usually not taught in school. So, children generally learn financial literacy skills from their parents. And given that not all parents have good financial literary skills, this isn’t necessarily a good thing.
Financial products and services are now widespread throughout society. These include overdrafts, credit cards, mortgages, loans, health insurance, life insurance and investing accounts. It’s thus important for people to understand how to use them and how they work.
Becoming financially literate involves learning and practicing a variety of skills related to personal finance.
The six pillars of financial literacy are:
- making money;
- spending money;
- managing debt and credit;
- planning for retirement;
- saving and investing; and
- protecting yourself from risk (e.g., insurance).
So, making money, is about learning how to make enough money to live the life you want, including during retirement. The three key ways of making or earning money are employment income, business income and investment/asset income. Not everyone wants to be an entrepreneur. So, if you rely on employment income, then you need to ensure that it will keep flowing to you in the future. Whilst entrepreneurs have more control over their income, they will need to learn additional skills like business finance.
Spending money requires knowledge of how to budget or operate a conscious spending plan. This includes learning about the trade-off between spending now on your current self and investing for your future self. It’s not about scrimping and saving. It’s about identifying the right balance for you as well as ensuring that you live within your means.
Managing debt & credit
Learning how to manage and pay off debt is part of financial literacy. And even better, is being responsible about taking on debt in the first place. The other thing to consider here is your credit score. Having a good credit score helps you obtain the best interest rates on loans, mortgages and credit cards. It’s important to monitor you credit score over time.
Retirement might seem far away and something you don’t want to think about. But it will happen. Financially planning is about having a vision, anticipating your needs in the future and planning for them. So, you first need to learn how to create a financial plan. And then also how to implement it. And take action towards it every day.
Saving and investing
An important aspect of financial literacy is at least having a working knowledge of key concepts, such as compound interest and the time value of money. These are important in investing, which is key to creating and growing wealth. It’s also important to understand the different types of assets you can invest in, namely: (i) cash; (ii) fixed income (e.g., bonds, peer-to-peer lending); (iii) equities (stocks and shares, funds); (iv) real estate (residential, holiday, commercial); (v) precious metals (gold, silver etc); (vi) other commodities (e.g., oil, corn); (vii) bitcoin and other cryptocurrencies; and (viii) collectibles (e.g., classic cars, watches, fine art).
Protecting yourself from risk
It’s best to expect the unexpected in life. I mean, shit happens. And there are many things we can’t control. But there are things you can do to protect yourself from unforeseen events. So, you need to be aware of all these and understand whether or not you need them. These include an emergency fund, a will, enduring power of attorney and insurances (e.g., life, home, car medical, critical illness).
It’s true what they say. Knowledge is power! Let’s all be financially literate – financially savvy!