WPS5798
POLICY RESEARCH WORKING PAPER                        5798
Unpacking the Causal Chain
of Financial Literacy
Penella Carpena
Shawn Cole
Jeremy Shapiro
Bilal Zia
The World Bank
Development Research Group
Finance and Private Sector Development Team
September 2011


POLICY RESEARCH WORKING PAPER 5798
Abstract
A growing body of literature examines the causal impact            significantly improve basic awareness of financial choices
of financial literacy on individual, household, and firm           and attitudes toward financial decisions. Monetary
level outcomes. This paper unpacks the mechanism                   incentives do not induce better performance, suggesting
of impact by focusing on the first link in the causal              cognitive constraints rather than lack of attention are
chain. Specifically, it studies the experimental impact of         a key barrier to improving financial knowledge. These
financial literacy on three distinct dimensions of financial       results illuminate the strengths and limitations of
knowledge. The analysis finds that financial literacy does         financial literacy training, which can inform the design
not immediately enable individuals to discern costs and            and anticipated effects of such programs.
rewards that require high numeracy skills, but it does
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The author may be contacted at bzia@worldbank.org.
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Unpacking the Causal Chain of Financial Literacy
Fenella Carpena, Shawn Cole, Jeremy Shapiro, and Bilal Zia1
Keywords: Financial Literacy, Financial Knowledge, Causal Mechanism, Impact
Evaluation
JEL Codes: C93, D14, G21, 012
University of California at Berkeley, Harvard Business School, GiveDirectly, and the World Bank, respectively.
We thank Saath Microfmance for their constant support on this research project. We also thank Anamaria Lusardi
and Arie Kapteyn for comments, and the World Bank Development Impact blog and the World Bank All About
Finance blog for coverage.


I. Introduction
Financial literacy has come to play an increasingly important role in financial reform across the
world. While modem technology, investments, and liberalization have made new financial
products and services widely available, much of the population remains ill equipped to make
informed financial choices or to evaluate complex financial products (Lusardi and Mitchell,
2007). In response to the perceived problem of limited financial literacy, governments, firms,
and non-profit organizations have devoted vast resources to financial education programs,
targeted to reach tens or even millions of individuals in the coming years.
Yet, to date, there is very little rigorous evidence on the impact of financial education. While
some rigorous evaluations of financial literacy programs are now underway, the focus seems to
be mostly on measuring end outcomes such as behavior change or financial product take-up, and
not much on the mechanism of impact - i.e. why and how do financial literacy programs impact
financial behavior?
In this paper, we use a randomized experiment to unpack the causal mechanism of financial
education. We focus on the intermediary impacts of a five-week comprehensive video-based
financial education program in India with modules on savings, credit, insurance and budgeting.
We specifically measure the effect on three distinct dimensions of financial knowledge: (1)
numeracy skills (e.g. computing interest rates), (2) basic financial awareness (e.g. bank account
opening requirements), and (3) attitudes towards financial decisions (e.g. belief in insurance
products). To enhance our understanding of the determinants of financial literacy, we
complement financial education with a pay-for-performance treatment, where some individuals
are provided with greater incentives to pay attention to the training program by receiving
monetary rewards for their performance on a follow-up knowledge test. This follow-up test was
administered to both the treatment and control groups between two and three weeks after the
program intervention. Our large sample, consisting of over 1,200 individuals randomized at the
individual level, enables us to detect even relatively small effects of financial literacy training on
the various dimensions of financial knowledge.
2


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