This dissertation aims to address the importance of financial literacy within the capability approach framework in the context of microfinance institutions’ clients in Indonesia, by raising four main issues. The first touches on financial capability and specifically focuses on its conceptualisation, predictors, and relationship with quality of life. A participatory method was employed to understand whether financial literacy is viewed as an important element of financial capability. An index of financial capability was built to investigate factors predicting financial capability and the relationship between financial capability and quality of life. The results suggest that socio-demographic discrepancies in financial capability exist, and financial capability is relevant for the improvement of quality of life.

The remaining three issues centre on the instrumental value of financial literacy. In the second part, it is proposed that financial literacy is a relevant conversion factor. Within the capability approach literature itself, there is a lack of empirical discussion on conversion factors. It can be concluded that financial literacy is associated positively with conversion rate efficiency.

The third research topic examined is the role of financial literacy in household financial decision-making authority. Previous studies have used household decision-making authority as a reflection of agency, which is an important building block of the capability approach. This thesis focuses on financial decision making, which is often perceived as “difficult”, “boring”, and “full of uncertainties”. It is suggested that the relationship between financial literacy and household financial decision-making authority is complex and contingent upon various factors.

The role of financial literacy in the relationship between financial decision-making authority and subjective well-being is the last topic investigated in this dissertation. While decision-making authority has been argued as a reflection of human agency and source of power within households, it can also be perceived as a burden. These two interpretations of authority lead to an unclear relationship between household financial decision-making authority and subjective well-being. While a negative relationship between household financial decision-making authority and subjective well-being can be found among those with low levels of financial literacy, a similar correlation is absent among those who score high in financial literacy. This suggests that skills are important for people to value agency.