Can You Answer These 3 Simple Finance Questions?

Can You Answer These 3 Simple Finance Questions?Note: This post was written by the previous owner of this blog in 2012.

Suppose you had $100 in a savings account and the interest rate was 2% per year. After 5 years, how much do you think you would have in the account if you left the money to grow: more than $102, exactly $102, less than $102?

Imagine that the interest rate on your savings account was 1% per year and inflation was 2% per year. After 1 year, would you be able to buy more than, exactly the same as, or less than today with the money in this account?

Do you think that the following statement is true or false? “Buying a single company stock usually provides a safer return than a stock mutual fund.”

*Answers at bottom of post

These questions were part of the 205 US Health and Retirement Study (HARS).  The Health and Retirement Study interviews 22,000 Americans 50 and over every two years on subjects like health care, housing, assets, pensions , employment and disability.  In 2005, the three questions above were included in the study to assess the respondents understanding of compound interest, inflation, and stock risk respectively.  If you answered all 3 questions correctly, you scored better than 66% of Americans who took the survey.  This was absolutely shocking to me since I felt that the questions above were not only basic finance, but also basic mathematics.  You can see more analysis of the results in a research paper written by Annamaria Lusardi and Olivia S. MitchellOne has to wonder how much of a role this financial illiteracy (assessed in 2005) played in the 2008 Great Recession.

What can America do about this? 

There are two schools of thought to combat financial illiteracy.  The first school of thought is to include finance education in school curriculums.  The author of the HARS paper states “In the same way we start people, you know, in school just reading and writing, you know, from the very beginning. We don’t teach literature so that people go on and write “War and Peace,” but we teach it so that people can appreciate a good book.

The other school of thought argues against finance education and to leave the understand of financial instruments to a higher level of financial advisors and through new regulations.  Lauren Willis, a legal scholar who previously worked at the Justice Department and the Federal Trade Commission says “It’s sort of like saying, well we should start teaching everybody to be their own doctor, teaching everyone to be their own mechanic, you know, something like that, terribly inefficient to do that. Not only is it inefficient, but it has this sort of culture of blaming the consumer. You know, you’re the one who didn’t figure this all out.”

Where I Stand

Though I wouldn’t recommend anyone do their own surgery, or rebuild their car engines, I do think that basic financial education is important to the advancement and financial success of Americans in the future.  Much like it would behoove one to learn how to change wiper blades or change an air filter in their cars, it is important for one to understand the basics of interest rates and inflation.  Much like it would behoove one to learn how discern going to a physician versus taking Sudafed to treat a stuffy nose, it is important for Americans to understand the basics of stocks and bonds.

I think there is a level of basic knowledge that should be integrated into the curriculums of schools.  Leave complex financial instruments to the experts, but one should know how to assess returns between a checking account, CD, or under the mattress.  I like to believe that I have a basic understanding of finances, but there are other complex instruments that I will leave to the experts which is why I plan to allocate a portion of my assets to a hedge fund in the future.  I don’t try to have a deep level of understanding on shorting, leverage, margin trading, short calls, long calls, etc., but I can evaluate a money market account, ETFs, mutual funds, growth stock funds, value stock funds, foreign investments, and dividends.

Did financial literacy cause the Great Recession?  I think there were several causes to the recession and I won’t get into them right now, but it would be hard not to argue that people just didn’t have a clue about their understanding of the risks they were taking as they were signing mortgage papers.  Yes, there were several mortgage brokers who were not transparent in their practices, but some blame lies with the financial illiteracy of the consumer.

Answers

  1. More than $102
  2. Less than today
  3. False

About The Author

Edwin is a marketer, social media influencer and head writer here at I Am 1 Percent. He manages a large network of high quality finance blogs and social media accounts. You can connect with him via email here.


16 Comments

  1. Dollar D @ The Dollar Disciple

    I think there absolutely should be some sort of financial education in schools. You could work it into basic economics classes or something but people ought to know the basics before they are thrust into the “real world” of credit card offers and home mortgages.

    Reply
  2. Poor to Rich a Day at a Time

    economics classes are not always required classes, many times they are electives.

    But I have always felt financial literacy should be part of the curriculum in schools. Unfortuantly at this point I think there is a whole lot they need to work on first though to repair a very broken system.

    Reply
  3. Mike

    I can’t believe so many people miss these. I got an intro to personal finance in high school ROTC.

    I don’t think everyone should take economics, but they should take a personal finance class. Focus on the real-world basics: balancing household budget, balance checkbook, interest, how stocks/mutual funds work, how credit cards/LOC work, etc. The things that every household ultimately needs to save money, avoid the pitfalls of too much credit, and prepare for retirement.

    Reply
    1. iam1percent

      Mike, thanks for your comment. The more I think about, the more it doesn’t make sense to me why its not mandatory. Everyone deals with finances at somepoint in their life.

      Reply
  4. ImpulseSave

    Great questions at the top of the post! I have to admit, I was pretty stumped on the second one.

    The only financial education I got in my public school was a personal finance electives course I took my senior year. I learned the basics about budgeting, stocks, and financial terms. I really don’t feel that was enough to prepare me for the real world, and I agree that financial literacy should be a part of required curriculum. It’s an essential skill: if we have home ec. to learn how to boil water, why not teach students how to balance a check book?

    Reply
  5. Michelle

    I think there should definitely be some sort of basic personal finance class. It would help EVERYONE

    Reply
  6. MyCanadianFinances

    Wow, I am really surprised that getting those all right scores me above 66% of the people who took the study.

    I do feel that finances should be discussed in schools. And this is why.

    Reply
  7. Six Figure Investor

    Education only goes so far. I have a few very smart friends who simply don’t have the aptitude to handle numbers. My advice: marry someone who does.

    Reply
  8. Nick

    It really is pretty sad that people can’t answer simple questions like this. I, too, think it should be mandatory (and think it’s slowly becoming mandatory in schools around the country). But I hate to put everything on teachers, too. They have quite a bit on their plates. Parents should have some level of responsibility… then again 1/3 of these 50-year-olds couldn’t answer the questions, so maybe we want some level of assurance that the right answers are being conveyed…

    Reply
  9. Jonathan

    I don’t know if what I’m about to say is accurate or not, but it does occur to me that people who are more financially responsible have less dependence on the government, and it’s possible that the government which sets the curriculum has a vested interest in keeping people dependent on the government. Requiring personal finance courses would have the opposite affect.

    Reply
    1. Jonny

      It’s true Jonathan that people will have less trust on government..

      This post is completely different and informative..

      Reply
  10. Cassie

    I was a little concerned when I read the 3 questions. I thought they were really easy, in which case I must be missing something. Turns out I wasn’t missing anything, I just knew the answers.

    I’m with My Canadian Finances in being surprised that answering those questions puts me above 66% of the American public (I’m Canadian also). I absolutely 100% agree that financial education should be a mandatory part of schooling, but by the looks of the 66%, we’re going to have to make sure all of the people teaching the kids know the answers prior to teaching it.

    Reply
  11. Matt @ RamblingFever Money

    Or, financial literacy could actually have a negative effect. I recently wrote about this very topic @ http://money.ramblingfever.com/2012/03/negative-effect-of-good-financial.html

    In a nutshell, it says by knowing too much about money you get highly self-confident which may cause you to make stupid financial decisions.

    Not saying that financial illiteracy is recommended either, just pointing out the possible downside of knowing too much.

    Reply
    1. iam1percent

      Matt, that was the argument against financial education…people would be overly confident in their decisions if it was taught in schools. However, I think just knowing fundamentals wouldn’t hurt.

      Reply
  12. Bret @ Hope to Prosper

    When I graduated from high school in California way back in the 80s, we had a mandatory Life Skills class. We learned to balance a checkbook and keep a budget, among other things. I don’t think it would put a burden on the education system to provide this critical information for students and it would be a big benefit to American society. Most kids learn this from their parents and some parents completely neglect the subject.

    Reply
  13. Terry

    YAWN. I got all three questions right, I always get a high score on personal finance tests, I have a dim view of these tests, and I consider personal finance in general to be overrated.

    I’m (probably) in the bottom 20% so by my reckoning, personal finance isn’t all that hot.

    Reply

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