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ESA Consumer Day – Financial Education

On the 28th of June, the three European supervisory authorities (ESAs – EBA, EIOPA, ESMA) held their yearly Consumer Day in Dublin.

Martin Schmalzried represented COFACE-Families Europe and the consumer perspective on the first panel dedicated to the topic of financial education and the mandate of the European Banking Authority (EBA) which is supposed to review and coordinate financial literacy and education initiatives by the national authorities.

Consumer associations have always had a “love/hate” relationship with the term “financial education”. While no one is opposed to more informed consumers in principle, the devil is in the detail. Studies put forward by BEUC showed that consumers that were “better informed” were more likely to make decisions which were going against their interest because of the false sense of confidence and over-estimating their level of knowledge of very complex products, including financial products.

There also seems to be a paradox in the end goal pursued by financial service providers which are often the ones advocating for the need for more financial education. It would seem that private companies want consumers literate enough in order to transfer liability (from responsible lending to responsible borrowing for instance), but not literate enough to really understand the products and what is in their best interest. If we were to imagine a consumer which was perfectly informed, making the most optimal decision at all times, then it would arguably even pose systemic risks to the entire financial system. How many unnecessary insurance products would go unsold? How many consumers would instantly ask to switch to providers with better conditions? To give a concrete example, if consumers acted on reports and information such as the latest findings of Better Finance which shows that actively managed funds are very costly without any meaningful impact on the performance (compared to passively managed funds for instance), that industry would collapse instantly.

Risk is another element which is central to all financial products and decisions and is near impossible to “educate” consumers about. From the perspective of financial service providers or insurers, risk is something to accurately assess and hedge against. From the perspective of a consumer, risk is subjective and cannot be properly hedged. To give a concrete example, the mortgages in Swiss Franc destroyed the lives of thousands of families, pushing them into unsustainable levels of debt and led in many cases to the repossession of their homes. From the perspective of banks, the likelihood of a sudden move in the exchange rate between their domestic currency and the Swiss Franc is something that can be hedged by purchasing special insurance contracts or increasing the pricing of those loans. If worse comes to worse, for banks which have reached systemic proportions, they can count on the bail out from States and other public institutions. From the perspective of the consumer, it is like saying that there is a 2% chance that the exchange rate will fluctuate in an unfavorable way during the lifetime of their mortgage, if that happens, there is an 80% chance they won’t be able to pay their loan and will have their house repossessed, followed by a 60% chance of losing their job or divorcing their partner due to the stress, ending with a 30% chance of committing suicide out of sheer despair. How is a consumer to interpret that information or to make a “rational” or “educated” decision based on that knowledge? How can a consumer “hedge” against this type of risk? In other words, in most cases, consumers are the ones bearing the full risk, even though they cannot hedge against it and there is no way for them to objectively assess whether a product is “risky” or not since it is tied to a very subjective perception.

More generally, it would seem that there is a tendency to transform consumers into “experts” across all fields, be it in the financial sector but also in nutrition, digital literacy etc. It is not realistic or possible at any rate, and is especially true for trying to educate people about products which they will only need to use once or twice throughout their life at most (like a mortgage credit).
Also, it is worth asking whether financial “education” is about educating people on how to “consume” financial products and thereby contribute to maintaining the current financial system afloat, or whether it is about making sure that consumers understand at a more fundamental level what is money, how the current financial system works, in order to exert their critical thinking and make choices (as consumers or as citizens via politics) to contribute to shape the financial system so that it evolves in a direction which is in the public interest.

From the perspective of COFACE-Families Europe, we prefer to insist on the necessity of budgetary education, that is, develop a responsible knowledge and attitude towards managing your money, always having a financial “buffer” for unforeseen expenditure, etc. This is in stark contrast to educating people about specific financial “products”. Many of COFACE-Families Europe members actually engage in these activities, and develop tools for families to manage their family budget based on their income and their family composition. Thus the EBA should focus on coordinating budgetary education rather than financial education as defined above.

The EBA could also address the pressing problem of counter financial education which pushes consumers to behave or consumer irresponsibly. Examples can be found everywhere in marketing and advertising of financial products which insist on buying the latest gadget, valentine’s day present or holiday using credit, or even target vulnerable consumers via digital advertising (for instance, predatory or pay day lenders targeting people that are identified as in financial distress via targeted online ads).

COFACE-Families Europe also advocates for quality, independent financial advice which is much more useful then financial education and is the “bridge” between budgetary education and ensuring consumers make sound financial decisions when selecting financial products. Going to an independent financial adviser should become a societal reflex at key moments in a consumers’ life, when important financial decisions need to be made (getting a mortgage, shopping for insurances, selecting a savings product etc).

Finally, COFACE-Families Europe supports the creation of simple, standardized, basic financial products which are essential to financial inclusion, are safe by design, and include important principles like the socialization of risk and solidarity in their make up. For more information about this, you can check out the FSUG paper about basic financial products here: https://ec.europa.eu/info/file/46842/download_en?token=6PKyKy_a

For more information visit the official website of the event: https://esas-joint-committee.europa.eu/about-us/scope-of-activities/consumer-protection-day
Or contact Martin Schmalzried: mschmalzried@coface-eu.org