These Are 5 of the Most Basic Components of Financial Literacy

These Are 5 of the Most Basic Components of Financial Literacy

In the United States, educators are pushing to include more classes on financial literacy as a basic part of education, especially for teenagers. There are many resources for increasing financial literacy, from free online courses to podcasts, but often, financial literacy classes are not a regular part of most school curricula.

Financial literacy is a key component to success as an adult, yet only 17 states include it as a mandatory part of high school education. We cannot make informed financial decisions until we understand the basics of personal finance, which starts with a strong base in financial literacy. The following are some essential components of basic financial literacy.

1. Interest rates

Most students get introduced to the concept of interest rates as part of mathematics education, but the connection to finances is not always evident. Being financially literate should mean having a strong understanding of how interest works, especially in terms of compounding.

When you understand the benefits of compounding interest, it may motivate you to save early. Even more important, you will have a better sense of the ramifications of taking out a loan. Interest rates impact your finances in many different ways, from getting a mortgage to retiring comfortably. As many high school students will also face the decision of taking out college loans, the ability to calculate interest can give them a much better sense of what they will end up paying down the road.

2. Budgeting

Perhaps the most basic aspect of personal finance is budgeting. Without a budget, it can be very difficult to stay on top of your finances. Today, budgeting has become much easier with the help of various apps that can analyze your spending, track purchases, and template out budgets.

While apps can do a lot of the heavy lifting for you where math is concerned, you should still approach it with a basic sense of budgeting. For instance, you should be able to know how to cover basic expenses while saving for more extravagant purchases—and still manage to have some fun on the side.

Without a budget, you may quickly find yourself in debt. Financial literacy often starts with budgeting, which is an essential skill as early as high school and especially during college, when many people experience independence for the first time.

3. Credit

When it comes to credit, many of us can get caught up in the score without thinking about what goes into that number. Financial literacy requires having a sense of what builds credit as well as what can destroy it. In the most basic sense, credit is much easier to lose than gain, and everyone should understand this concept early to avoid getting into a difficult situation.

With bad credit, you can spend years digging yourself out, especially since you will likely have to pay higher interest rates. If you understand how to build credit, you can get a head start and make sure you always set yourself up for success. Much of the credit-building process involves instilling good habits. These habits are impossible to create without understanding the pitfalls of credit first (especially when those credit card offers start arriving in the mail).

4. Identity theft

One of the newer essential components of financial literacy relates to our digital lives. Identity theft via data breaches is becoming increasingly prevalent. Many of us do our shopping online, and each time we enter our credit or debit card information, we are at risk of being hacked.

Financial literacy in this regard means understanding the real danger of identity theft and taking the proper measures to prevent it. These measures range from creating powerful passwords to limiting the amount of information you put online. You should also get in the habit of auditing your accounts regularly to make sure no unauthorized transactions appear. Failure to do so can lead to financial ruin. Of course, nothing is foolproof. You can also ensure that your account providers offer adequate protection. Most credit cards nowadays have fraud protection, but it is important to know that beforehand.

5. Saving

A key component of financial literacy is having an understanding of the importance of saving. Healthy finances depend upon adequate savings. This means everything from stashing away enough to retire comfortably to having enough to live on should an emergency arise.

Saving money can be difficult for many of us since it involves planning for something that is not tangible. Retirement may be decades in the future. An emergency fund means stashing money away for something that may never happen. Financially literate individuals, however, understand why saving early is so important, especially in terms of taking advantage of compounding interest.

Further, finance experts often emphasize a stepwise approach to saving. First, you save for something like concert tickets, then a vacation, then a car, and then a home. Saving is something to be practiced and perfected over time.