If an investment in knowledge pays the best interest, we’re truly living in a low rate environment. A lack of financial education is more obvious than ever, as one of the most extensive measurements of global financial literacy finds two-thirds of adults worldwide are financially illiterate. Many Americans, who are no stranger to debt, fail to answer simple questions about interest.
A recent survey from Standard & Poor’s conducted interviews with over 150,000 adults in more than 140 countries to gauge global literacy. The results are painful. Only 33% of adults worldwide are able to correctly answer at least three out of four financial concepts involving risk diversification, inflation, numeracy, and compound interest. That means around 3.5 billion adults globally, most of them in developing economies, lack an understanding of basic financial concepts. Country-level financial literacy rates vary from as high as 71% in Norway, Denmark, and Sweden to a mere 13% in Yemen. The United States has a financial literacy rate of 57%.
Ironically, interest is the least understood topic in the land of trillion-dollar debt loads. American households have $8.3 trillion in mortgage debt, but 30% of adults with a housing loan can’t correctly answer the compound interest questions in the survey. Even though 60% of Americans have a credit card, among the highest usage rate in the world, 67% of them are financially illiterate, and only 57% correctly answer the interest topic questions.
“Credit products, many of which carry high interest rates and complex terms, are becoming more readily available. Governments are pushing to increase financial inclusion by boosting access to bank accounts and other financial services but, unless people have the necessary financial skills, these opportunities can easily lead to high debt, mortgage defaults, or insolvency,” the report explains.
Let’s take a look at the three interest questions too many Americans get wrong.
1. Suppose you need to borrow 100 US dollars. Which is the lower amount to pay back: 105 US dollars or 100 US dollars plus three percent?
2. Suppose you put money in the bank for two years and the bank agrees to add 15 percent per year to your account. Will the bank add more money to your account the second year than it did the first year, or will it add the same amount of money both years?
3. Suppose you had 100 US dollars in a savings account and the bank adds 10 percent per year to the account. How much money would you have in the account after five years if you did not remove any money from the account? More than 150 US dollars, exactly 150 US dollars, or less than 150 US dollars?
If the answers aren’t obvious, you can find them at the bottom of this article. You may also want to start investing in knowledge. Interest rates and the magic of compounding returns plays a major part in your financial well-being. The average consumer will pay an estimated $279,002 over their lifetime in interest payments. The more you know about how interest functions, the easier it will be to dampen its burden.
Answers: 100 US dollars plus three percent, add more money the second year, more than 150 US dollars