Edward Waitzer is a professor and director of the Hennick Centre for Business and Law at York University’s Osgoode Hall Law School and the Schulich School of Business, a senior partner at Stikeman Elliott LLP, and a former chair of the Ontario Securities Commission.
Finance Minister Jim Flaherty recently announced the establishment of a Task Force on Financial Literacy to help create a cohesive national strategy to improve financial education. Statistics Canada is conducting a nationwide survey to assist the task force in identifying areas of strength and weakness in the many financial literacy efforts currently being undertaken by all levels of government and many private sector and non-profit organizations.
Regrettably, investor education may at times become a convenient excuse to refrain from considering the use of other regulatory instruments to assist those who have experienced poor financial outcomes. The contrast of U.S. regulators being prepared to invoke fraud charges to cause banks to buy back auction-rate securities compared with the “made-in-Canada” solution to our asset-backed commercial paper crisis (with investors shouldering a significant portion of the losses while financial institutions may be shielded from legal action) is a case in point. While it may be politically expedient, it’s not clear that the pursuit of investor education programs is always optimal from a cost-benefit perspective.
A few questions should be asked:
How do we get beyond ‘motherhood’ initiatives? Even if Canadian regulators aren’t inclined to be as aggressive on the enforcement front as their American counterparts, a number of other options come to mind.
Foremost would be a focus on better aligning the incentives that motivate the consumer, the salesperson and the sponsoring financial institution. This should include a renewed focus on “suitability” requirements and increasing the costs for salespeople and firms when they fail to discharge their obligations.
For example, last month the U.K. Financial Services Authority (FSA) outlined rules requiring that fees for financial advice be set and disclosed separately from the underlying cost of the investment products. The objective is to remove manufacturer’s influence over adviser recommendations and increase the suitability of products sold.
Recent proposals that would require the originator or broker of financial products to retain meaningful “skin in the game” (that is, a financial interest in the product’s performance) could also have a salutary effect. Legal standards (for example imposing fiduciary duties on salespeople or higher liability standards on financial products) are another avenue to explore. Are there other initiatives? A renewed focus on the simplification of retail financial products would be timely. In the guise of “innovation” or “yield enhancement,” Canada’s financial sector has packaged and sold products which were often misunderstood, even by those who designed, rated, or sold them. It is difficult to imagine how this could serve the interests of savers. Similarly, financial products could be better regulated to ensure true transparency (plain English rather than legalese) and comparability.
Approaches utilized elsewhere include the establishment of neutral, publicly subsidized intermediaries who might advise consumers on financial products and services (not unlike pro bono legal advice) or default rules, which would cause consumers to purchase low-cost, conservative financial products, absent some effort on their part to “opt out” and exercise choice by demonstrating their desire and capacity to do so in an informed manner. Do such programs make a difference? While considerable resources are dedicated to investor education, little work has been done to evaluate the impact of such initiatives, or compare them to alternative regulatory instruments that might serve as complements and/or substitutes. Two recent studies commissioned by the FSA and posted on its website suggest that, at best, the impact of such initiatives appears to be marginal and that financial education is unlikely to have major lasting effects on knowledge or behaviour.
Are there any success stories? There are, of course, successful financial literacy programs. One that stands out is Junior Achievement of Canada, which for years has commissioned external evaluations of the financial literacy/economic education programs it offers at junior and high-school levels. Research suggests a positive correlation between financial education in high school and increased savings. A broader focus on investor education at this early stage of life might build a stronger foundation for financial literacy. Perhaps a basic level of financial literacy should be mandatory for anyone graduating from high school.
An important step in this regard has been taken by the British Columbia Securities Commission in developing the “Planning 10: Finances” program, which has become mandatory for Grade 10 students in the province’s high schools. The commission and the Financial Consumer Agency of Canada have also launched “The City,” a new financial education resource to help young Canadians improve their knowledge of today’s complex financial system.
Is there a downside to such initiatives? The difficulty arises when investor education programs shift responsibility (and blame) from financially sophisticated market participants who manufacture and sell financial products (or those who regulate such market participants), to the consumer.
Of equal concern is the dedication of scarce resources to such financial literacy efforts to maintain the appearance of taking steps to remedy highly publicized cases of investor abuse, rather than focusing on developing a rational, overall regulatory agenda. Unfortunately, there are no easy fixes.
