Roundtable Series: Highlights from the Fourth Shared Prosperity Roundtable ─ Closing the Wealth Gap: Strategies for Financial Inclusion
April was National Financial Literacy Month. In recognition of the importance of financial literacy to the goal of achieving greater economic security for low-income Philadelphians, the April Roundtable showcased an innovative program designed to create communities of wealth within populations traditionally excluded from asset building activities.
The fourth Shared Prosperity Roundtable, Closing the Wealth Gap: Strategies for Financial Inclusion, took place on Thursday, April 24th at the United Way of Greater Philadelphia and Southern New Jersey. The Roundtable included a presentation by Keith Weigelt (Marks-Darivoff Family Professor of Strategy at the Wharton School, University of Pennsylvania) on the uneven distribution of wealth in the United States and in particular, the nature of wealth disparities across racial groups. Weigelt located the primary source of the wealth gap in the vast discrepancy between the rates of return generated by the kinds of assets held by the wealthy, compared to those held by lower income households. He showed that higher income households are much more likely to invest in the stock market, which has a long run rate of return averaging about 8 percent. In contrast, lower income households are much more likely to hold assets in savings or checking accounts, which earn little or no interest, and therefore often generate slightly negative returns after accounting for inflation. The difference in the rates of return is exacerbated by the law of compound interest, which Albert Einstein called “the most powerful force in the universe.” Weigelt shared a rule of thumb known as the Law of 72, which gives an estimate of the number of years it takes to double the value of an investment at different rates of return (r) through compounding:
The Law of 72: # years to double the investment = (72/r)
When an investor is earning a rate of return of 8% (consistent with the stock market over the long run) his or her money will double in value in only 9 years (72 divided by 8 = 9). If that rate of return falls to 1% (consistent with a typical interest bearing savings account), it takes a total of 72 years to double the value of the investment. By avoiding the more robust returns attainable through the stock market, lower income families are virtually guaranteed to fall further behind the upper income households who hold more diversified asset portfolios. Also, the lack of understanding about the power of compound interest makes people more willing to move assets out of stocks during a downturn. As Weigelt explained, the practice of panic-selling during an economic downturn causes investors to miss out on both the eventual recovery of stock values, and the opportunity to acquire additional stocks at bargain prices. Wealthy families have financial advisers and brokers to help them develop savvy investing strategies that take maximum advantage of the opportunities in the stock market. Weigelt’s Building Bridges to Wealth Program is designed to give regular lower income and working people access to the same knowledge, and increase their confidence about investing money in the stock market.
Building Bridges to Wealth is based on a peer support model that provides both instruction in financial literacy, and opportunities to participate in savings clubs and investing clubs. The savings club is a self-governed micro-lending program, with each individual club determining its underwriting criteria and interest rate. Once a member repays a micro-loan, the proceeds are used to make new loans to club members. The savings clubs give the borrowers access to small, short term loans at reasonable rates, and offer the lenders higher rates of return than they could otherwise achieve through a savings account. The savings clubs currently have 63 members and a loan pool of $30,000. In the investment clubs, members pool their savings and use them to purchase a diversified stock portfolio. The investment clubs operate on three simple principles: (1) save on a regular basis (even if it is a small amount); (2) hold onto the asset for the long term; (3) only purchase low cost investments (e.g., no load funds; zero trading commissions or fees). The investment clubs currently have approximately 400 members and more than $55,000 in assets. The Building Bridges to Wealth financial literacy curriculum has also been successfully introduced to several high schools in West Philadelphia.
After the presentation by Keith Weigelt, the round table discussion turned to some of the barriers to building wealth in low income communities and whether there was a need for new services, programs and banking products in order to close the wealth gap. The attendees, who included a mix of financial educators, consumer advocates, lenders, non-profit social service providers, and community development officials, offered many useful insights and recommendations on measures that could make a difference in closing the wealth gap. A list of the key ideas raised at the roundtable discussions can be found by downloading the detailed meeting notes. Keith Weigelt’s powerpoint presentation is also available for those who are interested in learning more information about Building Bridges to Wealth.
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