Framework for Assessing Financial Literacy and Superannuation Investment Choice Decisions

Article excerpt


There is a worldwide trend towards rapidly growing defined contribution pension funds in terms of assets and membership, and the choices available to individuals. This has shifted the decisionmaking responsibility to fund members for managing the investment of their retirement savings. This change has given rise to a phenomenon where most superannuation fund members are responsible for either actively choosing or passively relying on their funds' default investment options. Prior research identifies that deficiencies in financial literacy is one of the causes of inertia in financial decision-making and findings from international and Australian studies show that financial illiteracy is wide-spread. Given the potential significant economic and social consequences of poor financial decision-making in superannuation matters, this paper proposes a framework by which the various demographic, social and contextual factors that influence fund members' financial literacy and its association with investment choice decisions are explored. Enhanced theoretical and empirical understanding of the factors that are associated with active/passive investment choice decisions would enable development of well-targeted financial education programs.

Keywords: Financial literacy; Investment choice; Superannuation; Australia

JEL Classification: D14


Ageing of populations across the world has led to government reforms in retirement income policies that have increasingly shifted the responsibility to individuals to fund their own retirement (Bonoli & Shinkawa 2005). Decisions about management of retirement savings have also increasingly shifted to individuals with a worldwide trend away from defined benefit (DB) pension funds and towards defined contribution (DC) funds4. In Australia, most DB funds in both the public and private sectors are closed to new members (Australian Prudential Regulation Authority (APRA) 2007). This decline in DB funds, along with the introduction of mandatory superannuation contributions, has resulted in rapid growth in both the assets and membership of Australian DC funds.

With most funds offering their members investment choice, the onus is on individuals to make financial decisions throughout their working lives and into retirement. Many of these individuals are involuntary investors who may have no experience or interest in financial investment, yet are faced with decisions about which fund to join, and then selecting investment option(s) to which to direct their superannuation savings. As such, fund members are making complex investment decisions during their working lives that can have far-reaching financial implications on retirement benefits.

Industry data show that the vast majority of individuals are in the default superannuation fund chosen by their employer, and the default investment option chosen by the trustee of the fund they joined (Super Ratings 2006). Until recently, it has generally been assumed that all or most individuals in default investment options do not make an active choice. However, this assumption has been challenged by sectors of the superannuation industry, arguing that it is not the case.5 Whether fund members passively default into, or actively choose the default investment option remains an empirical question.

Prior research suggests that deficiencies in financial literacy is one of the causes of inertia and suboptimal financial decision-making, with findings from international and Australian studies showing that financial illiteracy is wide-spread. These financial literacy studies are generally based on subjective measures that assess individuals' attitudes and behaviours in relation to general financial matters6. Limited research has examined financial literacy in the context of more complex superannuation investment decision-making. Overall, this paper is motivated by the phenomenon of most superannuation fund members either actively choosing or passively defaulting to funds' default investment options, and the significant economic and social consequences of poor financial decision-making in superannuation matters. …