Understanding the Functional Form of the Relationship Between Childhood Cognitive Ability and Adult Financial Well-Being

In brief

Cognitive ability measured in childhood predicts financial wellbeing decades later, but not always in a straight line. Following 13,000 people in the 1970 British Cohort Study, most relationships were monotonic, yet credit use in particular showed a non-monotonic pattern, with the highest-ability adults using credit differently from those just below them. The shape of the relationship, not just its existence, matters for policy.

Abstract

The increasing complexity of the modern financial landscape presents significant challenges for individuals’ financial well-being. In this study, we aim to investigate the relationship between cognitive ability and financial well-being by utilizing data from the British Cohort Study, which follows a sample of 13,000 individuals from birth in 1970 to the present day. Our objective is to examine the functional form of this relationship while controlling for factors such as childhood socio-economic status and adult income. Previous research has established a correlation between cognitive ability and financial well-being, but has implicitly assumed a linear relationship. Our analyses indicate that the majority of the relationships between cognitive ability and financial variables are monotonic. However, we also observe non-monotonic relationships, particularly for credit usage, suggesting a curvilinear relationship where both lower and higher levels of cognitive ability are associated with lower levels of debt. These findings have important implications for understanding the role of cognitive ability in financial well-being and for financial education and policy, as the complexity of the modern financial landscape poses significant challenges for individuals’ financial well-being. As financial complexity is increasing and cognitive ability is a key predictor of knowledge acquisition, misspecifying the true relationship between cognitive ability and financial outcomes leads to an undervaluation of the role of cognitive ability for financial well-being.

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