Sounds pretty darn logical, doesn’t it? One study shows that 20% of subprime borrowers who are bad with numbers were in foreclosure, compared to just 5% of subprime borrowers who scored high on financial literacy tests. As for the banks and agents who agreed to lend money for these subprime mortgages in the first place, it is unclear how good (or bad) they are at math.
Tip of the hat to a Consumer Reports blog, where I first spotted the report, created by the Federal Reserve Bank of Atlanta.
In the summer of 2008, the report’s authors conducted a survey of borrowers who had obtained subprime mortgages in Connecticut, Massachusetts, and Rhode Island in 2006 or 2007. The borrowers were given tests, and the results revealed “robust evidence of a correlation between a specific aspect of financial literacy, numerical ability, and mortgage delinquency.” Specifically:
We find a large and statistically significant negative correlation between financial literacy and measures of mortgage delinquency and default, and the finding is robust to the inclusion of controls for income, education, risk aversion, and time preferences, thus ruling out a broad set of potential biases from omitted variables. The point estimates are remarkably robust, and quantitatively important: 20 percent of the borrowers in the bottom quartile of our financial literacy index have experienced foreclosure, compared to only 5 percent of those in the top quartile. Furthermore, borrowers in the bottom quartile of the index are behind on their mortgage payments 25 percent of the time, while those in the top quartile are behind approximately 10 percent of the time.
Of course, if you’re financial literate and good with math, you may have also been more likely to keep your job through the widespread downsizings and layoffs over the past couple of years. And with a job, you at least had a prayer of keeping up with your mortgage payments. Nonetheless, the data is pretty compelling. The report also cites some older consumer research that makes logical sense, like that:
individuals who were rated as confused by the interviewer were more likely to have adjustable-rate mortgages
And:
A low ability to perform simple mathematical calculations, for example, is correlated with lower levels of saving … less planning for retirement … poorer comprehension of credit, and the feeling that spending is out of control.
So kids out there: Study up. You may hate math, but you’ll really hate losing your home.