Jan. 3, 2014
A version of this post has appeared on the Huffington Post sections on savings and financial education.
Many families and individuals will resolve to build better, healthier balance sheets in 2014 by paying down their debts and saving and building assets. The news is already filled with advice on how to build better finances or warnings that Americans' balance sheets are tilted too far toward debts and not enough toward savings. Yet following the advice or heading the warnings is easier said than done without policies that help families and individuals save and build assets—particularly for those from lower income backgrounds.
For example, take the recent graduate who emerges from college with a loan debt of $29,000. Having pursued postsecondary education, this graduate would generally be considered to have made a wise financial investment with the potential for substantial payoffs across the life course. Compared to not enrolling in and graduating from college, this recent graduate may likely have better prospects in the labor market, the opportunity for higher lifetime earnings, and the potential for economic mobility. However, the recent graduate also begins life with a balance sheet tilted toward debts, one that he or she is unlikely to be able to leverage in order to build credit, live independently from their family of origin, afford the down payment on a new home, or save for retirement. One study found that students enrolled in college accumulated significantly more debts and significantly less net worth than those not enrolled in college. Follow-up studies confirmed this finding. In other words, at least in the short term, college enrollment coupled with loan debt contributes to balance sheets tilted toward debts as opposed to savings and assets. Though considered a wise financial investment, college enrollment coupled with loan debt has broad implications for financial security of future generations.
If wise financial investments can be met with unhealthy balance sheets, it is insufficient to solely offer advice or warnings about financial security. This means financial security goes beyond individual decision making—balance sheets are not only the result of making wise or poor financial investments. A postsecondary education system built on debt, predatory mortgage lending practices, an economic recession that reduced households' net worth and raised unemployment rates, an expanding retail and service economy paying only minimum wage with few benefits, and regressive tax policies that penalize poor families and individuals from accumulating assets all contribute to the health of the balance sheet. For these reasons, we need policies in 2014 that help families and individuals save and build assets so that they have a better financial foundation (a healthier balance sheet) upon which they can build in the future.
One preventive solution is to start early building better balance sheets and preparing for financial security. Policy proposals like Child Development Accounts (CDAs)—specially designed savings accounts opened at birth for all newborn children with progressive features that assist those living in poverty save for their futures—have the potential to prepare entire generations for financial security from birth. This is because saving and building assets would start at the very beginning of life with the support of and encouragement from policy. Research already confirms the potential of CDAs. Children with CDAs have more money saved and a greater capability to make informed financial decisions than children without CDAs. They may also be more likely to remain banked, diversify their assets, and accumulate savings compared to children without these accounts.
In the example above, intervening after students emerge from college with loan debt is almost too late. Loan debt has already cut into their balance sheets. Now imagine that student with a CDA at birth. They have been saving for almost 18 years by the time they enroll in college, making deposits of birthday and holiday money and eventually depositing paychecks from employment. Perhaps they can use their savings to reduce their loan debt burden upon graduation. They have also accumulated savings and assets over this time, building a balance sheet for financial security. Their savings and assets likely set them on a path for financial security from which they can benefit well across their life course.
When we resolve to build better balance sheets in 2014, let's do so by designing policies that support these endeavors. Starting early with CDAs to set generations on a course for financial security is one preventive solution.
Notes: Ray Boshara, Senior Advisor and Assistant Vice President at the Federal Reserve Bank of St. Louis, has long advocated for an attention to the balance sheet—the composition of assets and debts that comprise families' and individuals' finances. Child Development Accounts (CDAs) were originally proposed and tested by the Center for Social Development at Washington University in St. Louis.