Financial literacy and the use of financial services by US households

The purpose of this paper is to examine whether financial literacy is associated with the type of financial services used by households in counties throughout the United States. We classify households as Banked (those with a bank account), underbanked (those with a bank account who also use alternative financial services or AFSs), and unbanked (those without a bank account). Our empirical results indicate that financial literacy does indeed affect the likelihood that a household is banked, underbanked or unbanked, controlling for various characteristics of households and the density of bank offices and AFSs in the counties in which households are located. Financial literacy, moreover, affects the use of different alternative financial services, including payday loans, auto title loans, pawnshop loans, tax anticipation loans, and rent-to-own services. In addition, financial literacy may lead households to use less appropriate and affordable financial services, which lowers the degree of financial inclusion in a country. Our findings have both practical and policy implications.