Forefront in the Classroom :: Fall 2010 Volume 1 Number 3

The Federal Reserve Bank of Cleveland’s policy publication, Forefront, is a great tool for generating topical class discussions. Read more (PDF)

President’s Message

The economic importance of being educated. Read more(PDF)

The economic importance of being educated

  1. Why is educational attainment important during difficult economic times?
    • Education plays a crucial role in determining economic growth. Research has shown that one of the best ways to increase per capita income is to raise levels of educational attainment; when jobs are created, there must be qualified people to fill them. An educated populace is better at navigating an increasingly complicated financial marketplace.

Battling the Next Phase of the Housing Crisis

A new volume published by the Federal Reserve sheds light on the escalating problem with real-estate-owned, or REO, properties. Read more (PDF)

  1. What are REO "real estate owned" properties and what negative impact are they having in the Fourth District?
    • REO properties are the foreclosed homes that banks and other lenders have on their books after failing to sell them at sheriff's auction. The unsold houses often remain vacant and neglected, attracting vandals and depressing the value of other properties in the neighborhood.
  2. What are two findings of the Case Western Reserve University researchers who wrote "REO and Beyond: The Aftermath of the Foreclosure Crisis in Cuyahoga County, Ohio?"
    • The number of REOs in the county peaked in 2008 at just over 10,000 properties and declined to about 7,300 properties by late 2009. From 2004 to 2008, the percentage of properties on Cleveland's east side that sold out of REO at extremely distressed prices-$10,000 or less-increased from 4 percent to almost 80 percent.
  3. What is one possible solution to the REO problem in Cuyahoga County?
    • Through community land banks, such as the Cuyahoga County Land Bank, the county can acquire and demolish or rehabilitate REO properties in order to stabilize and revitalize neighborhoods.

Stop Investing in Stadiums...Start Investing in Kids

Interview with Art Rolnick on early childhood education. Read more (PDF)

  1. Why do some experts, including Arthur J. Rolnick, senior fellow at Minnesota's Humphrey Institute, argue that early childhood education is a kind of economic development with a high public return?
    • Rolnick cites the example of the Perry preschool study in Ypsilanti, Michigan: Over a 40-year span, children who were enrolled in this high-quality early education program-which included master's-level teachers, small classes, and home visits-were more likely than a control group to be literate by sixth grade, graduate from high school, hold jobs, and stay off of welfare. The crime rate for graduates of the program was 50 percent lower than for the control group. Adjusted for inflation, the program's annual rate of return on investment was 16 percent.
  2. Rolnick and his colleague Rob Grunewald created a program called Scholarship Plus. How does the program work?
    • It provides two-year scholarships that enable families in poverty to send their two- and three-year-olds to high-quality education programs. The "plus" refers to a mentor who engages the parents by making home visits before the child is born and maintaining an ongoing relationship with the family.
  3. How is the market responding to the Scholarship Plus program?
    • A pilot project, which is testing the program's ideas, shows a positive market response. Critics had predicted that there would not be enough high-quality early education programs, but the number of programs available has grown with the demand.

Mortgage Counseling, Plain Language, and Financial Education: What Works?

Highlights from the Federal Reserve Bank of Cleveland's 2010 Policy Summit . Read more (PDF)

  1. What are three key ways to help people make better decisions about their money?
    • Regulators and agencies should use clear language, ensure that consumers achieve broad financial literacy, and provide targeted education programs as necessary.
  2. What helped Canada avoid the increase in mortgage defaults and government bailouts for banks that occurred in the United States?
    • According to Virginie Traclet, a researcher in the Bank of Canada's Department of Monetary and Financial Analysis, Canada avoided a severe housing crisis partly because it requires that financial disclosure statements be written clearly and that lenders be bound to use plain language by disclosure requirements as well as banks' voluntary codes of conduct. In 2000, Canada's federal government proposed Cost-of-Borrowing Regulations that require banks to disclose credit product information, such as interest rates, to consumers. Later that year, the Canadian Bankers Association adopted a voluntary code of conduct. In 2009, the government amended its regulations, requiring that disclosures be "clear, concise, and not misleading."
  3. What happens when mortgage counseling is mandatory?
    • A study by Itzhak Ben-David found that when high-risk mortgage applicants are required to receive advice from HUD-certified counselors, financial decision-making improves. When mortgage counseling is mandated, the default rate for borrowers with low credit scores declines by 4.5 percent.

Five Big Ideas about Consumer Finance Education

Observations from the Federal Reserve's Jeanne Hogarth. Read more (Video)

  1. Why does Jeanne Hogarth, head of the Federal Reserve Board's Consumer Education and Research Section, say that money management is part psychology?
    • Hogarth believes that money management is about how people think and feel. For example, behavioral economists have found that psychology affects whether people participate in 401(k) plans. Opting in is always a person's optimal decision, but enrollment rates in voluntary 401(k) plans are not very high. Studies have shown that when companies make opting in automatic, meaning that workers must actively decline participation in a 401(k) plan, more people enroll.
  2. How did Hogarth and her colleagues demonstrate the effectiveness of financial education?
    • Hogarth, with Casey Bell and Dan Gorin studied the effectiveness of a two-day financial education program for military personnel at Fort Bliss in El Paso, Texas. Teachers from San Diego City College covered topics such as budgeting, credit, and consumer awareness. The study tracked a group of soldiers who took the course and a group who did not. For many years, the research team monitored positive behaviors like starting an emergency fund and negative behaviors like paying bills late. The soldiers who were in the financial education group showed more positive behaviors than the soldiers who were not.
  3. How has research shown that early access to financial education programs benefits consumers?
    • The Fort Bliss research showed that soldiers who had bank accounts when they were young became better money managers as adults, as did soldiers whose parents talked to them about family finances early in life. In another study, by Bernheim, Garrett, and Maki, consumers who graduated from high schools in states that mandated financial education averaged higher savings rates and higher net worth.
  4. What does Hogarth mean when she says, "Financial literacy doesn't always mean financial capability"?
    • The Fort Bliss research showed that soldiers who had bank accounts when they were young became better money managers as adults, as did soldiers whose parents talked to them about family finances early in life. In another study, by Bernheim, Garrett, and Maki,consumers who graduated from high schools in states that mandated financial education averaged higher savings rates and higher net worth.
  5. What does Hogarth think the future direction of research in financial education and consumer behavior should be?
    • Hogarth would like to see more evidence-based research on the links between financial knowledge, financial capability, and financial outcomes. She notes that sometimes people exhibit all of the correct financial behaviors, but their outcomes are underwhelming, as in the case of an underperforming 401(k) plan that is being funded to the max. It is a struggle for researchers to connect behaviors to outcomes while controlling for external factors that are out of consumers' control.

Overextended, Underinvested: The Debt Overhange Problem

High debt burdens can restrain business spending and investment through several channels. This article explains how economists have taken a potentially important step forward in understanding the "debt overhang" channel. Read more (PDF)

    What is debt overhang?
    • Overhang occurs when debt becomes too heavy a burden for firms or consumers and distorts their economic behavior. It may lead to crushing interest payments, difficulty securing new financing, an impulse to save more and spend less, and an urge for distressed firms to under-invest in projects that might otherwise make economic sense.

Interview with Laurence Meyer

Former Federal Reserve governor on the state of macroeconomics. Read more (PDF)

  1. What reasons did Laurence Meyer, principal of Macroeconomic Advisors and former member of the Board of Governors, give for the financial crisis?
    • According to Meyer, one flaw in the system was rapid innovation of new, untested financial products, which evolved into risky subprime loans. Another problem was securitization, a new technique that morphed into something too complex for anyone to understand. The trigger for the collapse was declining home prices, which made the subprime market unviable. Finally, macroeconomists took too narrow a view of the subprime problem, not seeing the connection between a property bust and collateral in the banking system. This brought the system to near-insolvency.
  2. What does Meyer want the general public to understand better about central banks and their role in the economic system?
    • Meyer would like to see Congress, as part of the public, learn more about the Fed. He also believes it is important for the public to understand the Fed's responsibilities as well as how a central bank achieves its objectives and the limits of what it can do.