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Measuring Financial Knowledge: The Effectiveness of Comprehensive vs. Specific Measures
Short Abstract
This paper compares the effectiveness of using different types of financial knowledge measures to explain financial behaviour. Specifically, this paper compares the common approach of using a financial knowledge index created by summing the correct answers to a set of multiple-choice questions on a variety of topics with the approach of using of responses to specific questions that assess knowledge directly related to the behaviour in question. Using data from a sample of more than 20,000 American adults from the 2009 and 2012 FINRA National Financial Capability Studies, a set of logistic and ordered logistic regressions is used to test the relationship between financial knowledge and the use of financial products (mortgages and investment products). Results suggest that focused measures of financial knowledge that take into account only knowledge about a specific and directly relevant topic are more effective in explaining the relationship between financial knowledge and consumer financial behaviour than a financial knowledge index and reduces the noise in data that occurs when knowledge indices are used.