This article was written by professor Andrew E. Clark (LSE), and professor Conchita D’Ambrosi and Marta Barazzetta, from the University of Luxembourg. A version of this article was first published on the LSE blog.
The 2008-2009 Great Recession and 2011-2013 EU sovereign-debt crisis put many families at risk of poverty and social exclusion. One particular feature of this double-dip downturn is that it has affected not only the poorest but rather a broad swathe of the population.
The February 2018 European Commission Quarterly Review on the employment and social situation records that the number of families who experienced financial distress — there defined as the need to draw on savings or run into debt to cover current expenditure — is at about 14% of the population. This figure is far above that of a decade earlier, and only slightly below its maximum value of 17% at the end of 2013. Along the same lines, 63% of Americans have no emergency savings for a $1000 emergency-room visit or a $500 car repair.
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There is of course a very large literature on the relationship between income and financial resources, on the one hand, and adult outcomes on the other. The broad question we ask in our own research is whether income suffices to describe parental financial difficulties and, if not, what can we do to improve our understanding of these intergenerational transmissions.
Income is only half the story
In general, we need to know both the level of financial resources and the demands that are made upon them in order to measure financial distress.
Knowing whether households have difficulty paying bills or have had financial problems may provide information over and above the income received. We then ask whether the trace of parental financial problems, conditional on parental income, can be found in the adolescent cognitive and non-cognitive outcomes of their children many years later. We are interested in children’s outcomes both in their own right as measures of how well young people are doing, and because these are known to predict outcomes throughout adult life.
Knowing about financial distress will not advance our knowledge much if this is almost entirely determined by income. But if the former reflects both economic resources and the demands that are made on them, income on its own may tell only half of the story. Financial distress may pick up not only income but also health problems, housing problems, the job loss of a family member, divorce, falling housing equity, and so on.
Some supportive evidence on this point comes from the British Household Panel Survey data. Respondents are asked “Would you say that you yourself are better off or worse off financially than you were a year ago?”. Around a quarter say better-off, another quarter worse-off and almost exactly one half about the same. Respondents who reported being better or worse off were then asked “Why is that?”, with the answers being reported verbatim.
Counting financial stress
Three response categories dominate for those whose financial position has worsened: a rise in expenses for almost exactly 50% of respondents, followed by a fall in income (28%) and “Other” (11%). These figures are very similar for those who have children in the household, and for those who have children under age 12 in the household. Financial problems are then more often caused by increased expenses than by lower income.
The number of financial problems is a far better predictor of behavior and emotional health than is average family income during childhood
We use data from the UK Avon Longitudinal Study of Parents and Children to see how parental financial distress is related to children’s outcomes many years late. This survey followed the population of 14,000 pregnant mothers in one UK region in the early 1990s. This large-scale birth-cohort data follows children over a period of more than two decades. For each of the child’s first 11 years, mothers are asked whether they had had a “major financial problem” over the past year.
Just under half of children grew up in households with at least one major financial problem over the child’s first 11 years, and around one in eight had three or more such episodes. We then relate this childhood financial problem count to child outcomes at age 16 or 18. These are both cognitive (exam scores) and non-cognitive (behavior and emotional health).
Our striking finding is that the number of financial problems is a far better predictor of behavior and emotional health than is average family income during childhood (indeed, the latter is mostly unimportant), and as good a predictor of exam scores as income.
It may be countered that we are not showing an effect of financial distress on child outcomes, but merely a correlation, in the sense that parents who have trouble managing their money may also have trouble bringing up their children. To investigate, we carried out what is sometimes called a “value-added” analysis. Given children’s outcomes at age 5 (where any effect of poor parenting should already be evident), do financial problems between child ages 6-11 continue to be correlated with child adolescent outcomes? The answer is Yes.
Our understanding of how well families are doing financially then requires information on both income and financial stress. This financial stress is not just the preserve of those at the bottom of the income distribution, and the shadow that it casts is likely very long: childhood financial problems lead to significantly poorer young-adult outcomes, and it is known that these latter continue to affect life satisfaction throughout adult life. — Andrew E. Clark, Conchita D’Ambrosi and Marta Barazzetta.
(Photo credit: Death to the stock photo).