The Relationship between Financial Literacy and Financial Inclusion

Abstract

About two billion people in the world do not own a financial account and there are many more who use financial services only occasionally. In the past, initiatives which address these problems of financial exclusion focused on the supply side of financial markets, in particular by increasing the branch network of banks and by offering cheap bank products. While this had the desired effect, recent evidence shows that improving the demand side of financial markets is also helpful. There are numerous initiatives and public policies to enhance financial education and to improve financial literacy. Microeconometric studies, often randomized controlled trials, show that financial literacy has a causal effect on financial inclusion; educated individuals understand the advantages of financial services better but also feel more confident about contacting providers. Cross-country evidence indicates that in poorer countries improved financial supply and demand are substitutes, i.e., they work independently of each other. In higher-income economies, however, these instruments are complements, i.e., it is useful to improve financial literacy in order to make better use of available financial services.