Investment in financial literacy, social security and portfolio choice

We present an intertemporal portfolio choice model where individuals invest in finan- cial literacy, save, allocate their wealth between a safe and a risky asset, and receive a pension when they retire. Financial literacy affects the excess return and the cost of stock market participation. Investors simultaneously choose how much to save, the portfolio al- location, and the optimal investment in literacy. The model implies one should observe a positive correlation between stock market participation (and risky asset share, conditional on participation) and financial literacy, and a negative correlation between the generosity of the social security system and financial literacy. The model also implies that finan- cial literacy accumulated early in life is positively correlated with the individual’s wealth and portfolio allocations later in life. Using microeconomic cross-country data, we find support for these predictions.