Balancing Interests: Economic Incentives in Financial Education for Households and Banks

Abstract This paper explores the persistent issue of low level of financial literacy in developed countries by examining the economic incentives driving financial education choices. By means of a novel evolutionary game theory approach, we model the interactions between households seeking better loan terms and banks aiming to maximize lending revenues. The analysis highlights the dual channels of financial education: formal education provided by banks and informal education acquired by households through personal networks and social media. Households bear costs in pursuing financial literacy but can negotiate better credit conditions. Banks have conflicting incentives that may not always align with promoting financial literacy. This dual incentive structure can lead banks to under-invest in financial education initiatives, relying instead on “free-riding behavior” where they benefit from households’ informal education efforts. Findings reveal that investment in informal education can either complement or substitute formal education, influencing overall literacy levels and credit market outcomes. The initial level of financial literacy is crucial, as higher initial knowledge promotes sustained improvements. Cyclical patterns in the adoption of financial education strategies occur, influenced by changes in costs and perceived benefits over time. The research underscores the need for policies that consider both household and bank interests. Effective policies should reduce financial education barriers and address potential conflicts of interest in financial advisory services.