In an increasingly risky and globalized marketplace, people must be able to make well-informed financial decisions. Yet new international research demonstrates that financial illiteracy is widespread when financial markets are well developed as in Germany, the Netherlands, Sweden, Japan, Italy, New Zealand, and the United States, or when they are changing rapidly as in Russia. Further, across these countries, we show that the older population believes itself well informed, even though it is actually less well informed than average. Other common patterns are also evident: women are less financially literate than men and are aware of this shortfall. More educated people are more informed, yet education is far from a perfect proxy for literacy. There are also ethnic/racial and regional differences: city-dwellers in Russia are better informed than their rural counterparts, while in the U.S., African Americans and Hispanics are relatively less financially literate than others. Moreover, the more financially knowledgeable are also those most likely to plan for retirement. In fact, answering one additional financial question correctly is associated with a 3-4 percentage point higher chance of planning for retirement in countries as diverse as Germany, the U.S., Japan, and Sweden; in the Netherlands, it boosts planning by 10 percentage points. Finally, using instrumental variables, we show that these estimates probably underestimate the effects of financial literacy on retirement planning. In sum, around the world, financial literacy is critical to retirement security.

Rising life expectancies and falling fertility rates are straining employer-sponsored pensions and Social Security systems around the world. In response, several countries have transformed their retirement schemes by remaking their traditional defined benefit (DB) pensions into individual-account defined contribution (DC) schemes. This transformation shifts many of the decisions about financing retirement away from institutions – firms and governments – toward individuals, imposing on workers the responsibility to save, invest, and spend wisely over the lifecycle. In some ways, this transition has wrought change for the better. For instance, when the labor force is mobile, pensions must be portable – and DC plans are more flexible than conventional DB plans that discourage labor mobility. Yet DC flexibility also presents the possibility that individuals might not do the right thing: they can under save, fail to invest wisely, and run out of money in old age due to longevity risk (Mitchell, 2011; Poterba et al. 2008). For this reason, the new financial era will impose a much heavier burden on workers and their households than in the past to become financially literate – to learn how to process economic information and make informed decisions about household finances.