The benefits of starting financial education early
In their study on how parental bankruptcy affects older children more than their younger siblings, Agarwal, Sing and Zhang (2022) make a case for starting financial education during early childhood.
29 July 2022
Does a negative shock of bankruptcy in a family affect the children's pecuniary behaviour in adulthood? If a parent went bankrupt, do we expect his or her children to "learn a lesson" or become more risk averse, and thereafter exercise tighter financial prudence? Or will they imitate their parents and mess up their finances later in life?
In their paper "Intergenerational Influences on Personal Bankruptcy: Evidence from Singapore", Agarwal, Sing and Zhang (2022) investigate the effect of parental bankruptcy on children's financial behaviour in adulthood.
While we generally expect older siblings to be more sensible and responsible, the study found that younger children at the time of family bankruptcy were less likely to declare bankruptcy in their adulthood compared to their older siblings.
Data collection
The study merged three datasets, namely, a first dataset that includes personal, demographic and residence information on a majority of Singaporean citizens, a second dataset that includes bankruptcy cases in Singapore from the 1960s to 2012, and finally, a third dataset that encompasses legal cases pertaining to car accidents, credit cards and other credit facilities in Singapore from 1980 to 2012.
The matching of the datasets allowed the researchers to identify households that declared bankruptcy. After filtering for families with bankrupted parents, the third database enabled the researchers to investigate the behaviour of children in these families in relation to defaulting on credit card debt and other credit facilities, and also their risk attitudes, proxied by their probabilities of getting involved in traffic accidents.
A total of 291,074 children from 128,904 households were identified as subjects for regression analysis.
Findings
Children who were younger at the time of parental bankruptcy were less likely to become bankrupt during adulthood when compared against their older siblings in the 18 – 21 age bracket.
Children whose parents were bankrupt before they were born have a bankruptcy risk of 3.4 percentage points lower than that of children who experienced parental bankruptcy at 18 to 21 years of age. Similarly, the probabilities of credit card defaults and other credit facility defaults are 3.1 percentage points and 7.6 percentage points lower, respectively.
For those children whose parents declared bankruptcy when they were 0 to 4 years old, their probability of declaring bankruptcy is 2.7 percentage points lower than that of their older siblings. Their probabilities of defaulting on credit cards and other credit facilities are 2 percentage points and 5.3 percentage points lower, respectively.
For those children whose parents went bankrupt when they were 5 to 17 years old, the probability of bankruptcy is 1.9 percentage points lower, the probability of defaulting on a credit card is 0.9 percentage points lower but statistically insignificant, and the probability of defaulting on other credit facilities is 2.2 percentage points lower than that of the reference group.
Explanation
The researchers considered several competing explanations for why older children in bankrupt families experience more adverse financial outcomes than their younger siblings.
(i) Older children shoulder more responsibilities
An intuitively satisfying explanation is that older children in bankrupt families take on more responsibilities to support the family. For example, they may quit school early to work; thus, they would be less successful in adulthood and more likely to declare bankruptcy than their siblings.
Agarwal et al. ran further regressions to compare firstborn children against non-firstborn children in the same age bracket (e.g. firstborn vs. non-firstborn, both within the 1 – 4 years age bracket). The results show that the likelihood of firstborn children undergoing financial embarrassment later during adulthood was very minute and statistically insignificant compared to non-firstborn siblings in the same age bracket.
Through this test, the researchers ruled out "birth order" to explain why older children fared worse.
(ii) Risk attitudes
Another possible hypothesis is that children become risk averse after experiencing negative shocks in childhood and that younger children are more affected. As a proxy for risk aversion, Agarwal et al. investigated the children's probability of getting into traffic accidents (through the aforementioned third dataset on legal cases). If the children become more risk averse after a parental bankruptcy, they may drive more carefully to avoid pecuniary losses from traffic accidents.
Regression results on the probability of being charged in car accidents were statistically insignificant among the different age brackets. These results suggest that parental bankruptcy has little impact on children's risk attitudes.
(iii) Learn a lesson from parents
Bankrupt parents may devote more time to their children's financial education; thus, their children may be more careful with their consumption, investment and other financial behaviour. While financial education provided by parents could not be directly observed, the researchers deployed a heterogeneity test which could reveal the effects of financial education.
Other research has found that children who are close to their mothers and who communicate more with their mothers are less likely to engage in irresponsible financial behaviours. The mother, therefore, plays a more important role in shaping their children's financial behaviour than the father does – and it follows that if the parent who declared bankruptcy is the mother, the children are more likely to "learn a lesson" from her experience.
In regression analysis that compared children of maternal bankruptcy shocks against those who experienced paternal bankruptcy shocks, the researchers found that the former were generally less likely to suffer from financial embarrassment later in adulthood.
Given that younger children tend to be closer to their mothers compared to adolescents seeking independence, this finding corroborates the hypothesis that lessons learned during childhood have stronger and more lasting impact on adult financial behaviours than lessons learned during adolescence and adulthood. Therefore, financial education in the early years of childhood appears to be more effective than that received at older ages.
Implications
In contrast with bankruptcy laws in countries such as the US, where bankrupt individuals receive a fresh start after a relatively short period, declaring bankruptcy in Singapore severely distorts debtors' lives. It is the last resort for settling debt. The consumption and daily activities of bankrupt individuals here are closely monitored by court officials (known as Official Assignees). Among other things, they are not allowed to own cars, private housing or credit cards, take a taxi or have a mobile phone plan.
Given the intergenerational ramifications of parental bankruptcy uncovered in this study and Singapore's stringent bankruptcy laws, starting financial education for children during their early years is important and cannot be neglected.
A strict debt relief system catalyses motivation for financial education, literacy and responsibility in the population at large, which subsequently percolates to the succeeding generations.
Authors:
Agarwal, Sumit is the Low Tuck Kwong Distinguished Professor at the School of Business and a professor of Economics, Finance and Real Estate at the National University of Singapore.
Tien Foo, Sing is a professor of real estate and Director of the Institute of Real Estate and Urban Studies (IREUS) at the National University of Singapore.
Xiaoyu, Zhang is an assistant professor at Department of Finance, Lingnan (University) College, Sun Yat-Sen University.