Curbing Debt: It’s Not What You Know

The biggest financial hurdle facing workers with low incomes is just that: inadequate income to meet their daily needs.

Low-income households are further tripped up by their greater tendency to borrow at high interest rates – rates they are the least able to afford in the first place.

Some academic research blames this on poor financial literacy.  But a new study out of Northern Ireland examines two separate aspects of financial literacy and finds the problem is not a lack of knowledge but rather an absence of money management skills.

Among “financially vulnerable” people, the study concluded, “money management skills are important determinants of consumer debt behavior” and “numeracy has almost no role to play.”

The study involved researchers conducting one-hour, face-to-face interviews in low-income neighborhoods in Belfast. They interviewed 499 people whose average gross earnings were the equivalent of $567 per week or less.

They asked the people interviewed about their money management and organizational habits, such as whether they monitor bank and credit card statements, pay bills on time, keep budgets, and put money away for future expenses. A separate set of questions tested their numeracy skills, asking the respondents to calculate simple and compound interest, compute basic percentages, and solve simple division equations.

Controlling for income, household size, and other factors that can influence debt levels, the study found that individuals with good money management and organizational habits had lower household debt and higher net worth. On average, they had $1,874 less debt than those whose money management skills fell in the middle – not good, not bad.  The ability to correctly solve the math equations, by contrast, did not affect debt levels.

The researchers also asked about the use of high-interest lenders, and the individuals surveyed said convenience was the most common reason for using them.  But those with better money management skills were less likely to fall into using these payday lenders.  Avoiding payday lenders with high rates can curb total borrowing costs, though the impact on household debt levels was not reported in this study.

The implication of the study, according to the  researchers, is that the most effective programs to help those challenged by low incomes should focus on basic money-management skills.