Can financial literacy buffer the economic impact of extreme weather events? A focus on floods

Abstract

This study investigates whether financial literacy can mitigate the economic impact of floods in Canada. Using data from the 2019 Canadian Financial Capabilities Survey (CFCS), we construct a financial literacy index using Item Response Theory and a financial fragility index using iterated factor method. Exposure to floods is measured through geospatial mapping of flood footprints from NRCan. Employing a fractional logit model, the analysis finds that households residing in flood-affected areas exhibit significantly higher financial fragility. Financial literacy, while strongly associated with lower fragility in non-flooded areas, shows no statistically significant buffering effect in flooded areas. Additionally, gender, education, employment, age, and income play important roles in levels of financial fragility. These findings suggest that while financial literacy enhances general financial resilience, it is insufficient to protect households from severe economic shocks. Policy implications highlight the need to integrate disaster-specific financial preparedness, such as insurance literacy and climate-risk awareness.