Heuristics: A Behavioral Approach to Financial Literacy Training

By Microfinace Barometer estimates, over half of microfinance institutions around the world offer non-financial services. The most frequently offered service? Financial literacy training. Despite its popularity, there is little evidence whether such trainings improve microentrepreneurs’ decision-making or the actual performance of their businesses. In this post, ideas42 shares findings on what an effective financial literacy program could look like, based on insights about human psychology and decision-making.

To begin with, imagine for a moment that you’re a cash-strapped Indian microentrepreneur trying to decide whether to purchase extra inventory or buy a new fridge for the home. What do you do? One option is to use your finance and accounting skills to compare current sales projections against the expected returns of a better functioning fridge. The other option is to simply check your home and business funds to see if you can afford the fridge, and potentially borrow if necessary. If you were a salaried worker, you couldn’t just take funds from your workplace. Similarly, if microentrepreneurs paid themselves a salary, these types of trade-offs would not risk damaging the health of the business. The second option also has the benefit of being much easier to do and to teach.

Traditional financial literacy programs fail to support microentrepreneurs in complex business decisions because the solution they offer is itself quite complex. Implicit in those programs is the assumption that, with the right classroom-based training in accounting and business planning, people could come close to making the perfect decisions. The problem is increased knowledge alone doesn’t always translate into improved decisions or behaviors. Psychologists have found that simple information is more easily absorbed and recalled. This insight points to alternative ways to deliver financial literacy training. Reducing content complexity, and replacing classroom-based delivery with a lighter-touch method offers fresh promise for improving business decisions and outcomes.

At ideas42, we are working on two ways to achieve this – developing simplified content and a more cost-effective and direct delivery channel for financial literacy trainings.  

Heuristics Content: ideas42 founder Antoinette Schoar together with co-authors Alejandro Drexler and Greg Fischer developed a simplified financial management training that uses effective rules of thumb, or “heuristics”, to improve microentrepreneurs’ financial management skills. This is where behavioral science comes in: As described by Schoar and Datta, such heuristics are shortcuts or decision-making aids that enable business owners to make “reasonably good” decisions without needing to understand all the complex nuances of accounting or business planning.

Based on months of observations and interviews with microfinance lending clients, the team distilled complex business concepts and decisions into easy-to-implement action steps. For example, one heuristic informed entrepreneurs to physically separate the money for their business and household by placing it in two separate drawers. At the end of each month they could then count the money in the business drawer and effectively “calculate” profit without having to use (and thus remember) any accounting techniques.

Results from the pilot showed that microentrepreneurs given a heuristics-based training were as much as 10 percentage points more likely to keep accounting records, calculate monthly revenues, and separate their home and business incomes than the control group, which was given a traditional classroom-based training. Overall, it appears that the microentrepreneurs in the heuristics group were more likely to implement what they learned in the rules of thumb training.

Delivery Channel: ideas42 in partnership with the Small Enterprise Finance Center based in Chennai is designing an effective way to deliver the financial heuristics training. The limits of attention in a classroom setting, and the high time and opportunity costs of attending classroom trainings, point to the promise of a lighter-touch intervention that reduces the cognitive resources required to adopt and practice best management behaviors. With the support of CGAP’s Client at the Center Research Fund, we are exploring the feasibility of delivering financial heuristics via a mobile phone platform. The mobile phone delivery, besides being beneficial to microentrepreneurs, is attractive to microfinance providers as well, due to its customizability and the low marginal cost per additional user.

In 2015, we will conduct user testing and interviews with 100 customers of microfinance institutions in India and the Philippines to explore the feasibility of using a mobile phone-based platform for the financial heuristics training. This research aims to answer the following questions:

1. How can financial heuristics training effectively be delivered via mobile phones?
2. What is the optimal format, length and frequency of the messaging?
3. To what extent do we need to adapt financial heuristics messaging across countries?

The customer interviews, to be completed in December 2015, will provide deep insights about adapting the financial heuristics training for the mobile platform. Following the qualitative research, we will conduct two randomized controlled trials to test the effectiveness and scalability of mobile financial heuristics with USAID Stage 2 funding.