Financial Competence (update on Sandro Ambuehl’s work)

Yesterday, I went to a CREED seminar where Sandro Ambuehl spoke on two papers: The Effect of Financial Education on the Quality of Decision Making and Peer Effects in Financial Decision Making – A Case of the Blind Leading the Blind?

Measuring quality of financial decision
The first paper, I blogged about before. Two slides did help me understand it better.

On the methodology and the willingness to pay for the simple and the complex products:

ambuehlmethod.png

And the summary slide:

ambuehlconcl.png

(also the shift in CDF curve became more clear to me. People that underestimated compound estimate had better estimate because of the [rhetoric] intervention. However, this positive effect for some, was offset by a negative effect on people that previously had a good estimate of compound interest now overestimated its effect. So no net-benefit for the whole population)

Peer effects
The other paper was Peer Effects in Financial Decision Making – A Case of the Blind Leading the Blind?(with B. Douglas Bernheim, Fulya Ersoy, and Donhatai Harris).
Abstract:

Often, people consult with others for advice before they make financial decisions. Previous research argues that such communication amounts to a case of the blind leading the blind. In this paper, we document that it can be beneficial, and explore mechanisms. In our laboratory experiment, subjects make private decisions about investments involving compound interest both before and after they communicate with a randomly assigned partner. Communication not only improves decision making for the specific tasks they have sought advice about, but subjects successfully generalize these skills to novel decision problems. We find that communication is most beneficial when pair members’ skills are at similar levels — the transmission of financial competence requires a common language, and is not merely a case of information flowing from those who have it to those who do not. Finally, communication leads subjects to reevaluate their privately revealed time preferences. Discount rates move towards the communication partners’ rate, and do so to a larger extent if the partner is more patient. We suggest policies to improve the quality of financial decision making.

Sandro used the same methodology to establish financial competence, namely the divergence between willingness to pay for the simple product and the complex product. Rationally, this should be zero, because they are economically equivalent, but the complex one is often considered less worthy, resulting in a negative number for divergence/financial competence.

peerq.png

Communication does help in financial decision making, after conferring, people make better choices, also on novel tasks.

peerhelp.png

I didn’t photograph this, but it also matters with whom you confer. Sample was split in two based on results in stage 0. If a person from the bottom-half had a top-half partner (i.e. “better”), competence increased. However, if a person from the bottom-half had a bottom-half partner (i.e. “similar”), competence increased even more. Booij et al (2016) found something similar for the effect of similar peers (Ability peer effects in university: Evidence from a randomized experiment).

Summary slide of the talk

ambuehlsummary.png

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