Technology: The enabler of financial inclusion

Bank accounts provide a safe way to store money and amass savings. They also make it easier for individuals to access credit, make purchases and pay bills, as well as send or receive remittances.

Having an account therefore is typically the first step towards financial inclusion – the pursuit of making financial services accessible at affordable costs to all individuals and businesses¹.

Financial inclusion on a widespread scale, however, is yet to be achieved in many developing economies.

Around 1.7 billion adults worldwide (31% of the global population) remain ‘unbanked’ – that is, without an account either at a financial institution or via a mobile money service provider².

China and India, for example, despite having high account ownership, claim the two largest ‘unbanked’ populations because of their absolute sizes (see Fig.1). In Sub-Saharan Africa, only 42.6% of adults own an account, the lowest ownership amongst other regions³.

Fig. 1: Seven developing economies house half of all unbanked adults⁴

In addition, gender inequality is more prominent in developing economies, where women tend to stay at home to care for children rather than join the work force. The result is that only 59% of women in developing economies own a bank account, which is 9 percentage points less likely than men; in contrast, the gap is just 1 percentage point in high-income (OECD) economies⁵.

What is the reason for such exclusion? Why is financial inclusion important for the developing world? How can fintech help to reduce these gaps?

Necessary for everyone, financial inclusion strives to resolve constraints that exclude people – especially the low-income individuals working in the wages-in-cash sector – from accessing financial services. Such inclusion will help them to:

Without an account, these individuals are unlikely to achieve any form of prosperity, thereby hindering their upward mobility.

Such exclusion, as indicated in the much lower 63% account ownership, is more prominent in low-income economies (mostly developing economies), whereas 94% of adults own an account in high-income economies (see Fig. 2).

Fig. 2: Account ownership differs substantially even within income groups⁶

Low-income individuals aside, micro-small-medium-enterprises (MSMEs), which employ nearly two thirds of employees in low-income economies⁷, also face a lack of access to finance for expansion.

If such inefficiency is eliminated, gross domestic product (GDP) will potentially increase by 14% in large developing economies such as India (based on the 2015 nominal GDP)⁸. In frontier markets, the resulting upside could be up to 30%.

Financial inclusion, therefore, serves as a key enabler in achieving financial stability and, over time, accumulating wealth and thereby alleviating poverty.

Advancing financial inclusion, however, faces a host of barriers, notably geographical and infrastructure challenges.

In the first place, it is not commercially viable to provide financial services for many low-income individuals in rural areas in emerging economies.

Simply put, their net worth is below the minimum profitable threshold to encourage financial institutions to set up physical branches or even automated teller machines (ATMs) in such areas. Inhabitants of some of Indonesia’s remote islands, for example, must commute for two to four hours to visit a bank branch if they want to open an account.

Geographical challenges aside, other common roadblocks include:

Whilst these roadblocks can be intimidating, digital technology and artificial intelligence now provide solutions for overcoming many of them. In addition, the rising use of mobile-cellular and smartphones (see Fig. 3) serves as an important gateway.

Fig. 3: Rising use of mobile phones in developing economies⁹

In the rural areas of sub-Saharan Africa, for example, formal banks are relatively rare and fixed-line infrastructure is limited – yet mobile-cellular phones are extremely common. This allows mobile network operators to offer primitive chequing accounts that allow transactions to be made via simple text messages.

In that way employees can receive their wages directly into their mobile-phone accounts without delay, saving on travelling long distances to collect the money.

It is therefore not surprising that mobile phone penetration and financial inclusion are mutually reinforcing. From 2014 to 2017, 515 million adults opened an account globally, and the number of mobile phone subscribers increased by 860 million⁹.

The overall result of these forces can also be seen in the rapid growth of digital payments.

In 2017, seven out of 10 account owners in developing economies made payments digitally (mobile phone or the internet), up significantly from a participation rate of 57% in 2014¹⁰.

That said, pervasive mobile phone access is just a starting point for inclusive finance for individuals and small businesses.

Globally, there are 1 billion adults with no form of officially recognised identity documents (ID)¹¹. This has precluded many from accessing basic financial services.

Thanks to biometric identification (e.g. facial, retina or fingerprint recognition) and mobile connectivity, digital identity is helping this disadvantaged demographic to gain access to online financial services, while leapfrogging the hurdle of the costly traditional proof-of-identity documents.

India’s voluntary digital identification programme is exemplary.

More than 90% of the country’s population now have a biometric-based personal identification called ‘Aadhaar’¹². With this 12-digit number, residents of India can now draw a pension, buy food and transfer money, even without a mobile phone.

With just a micro ATM, banking correspondents¹³ in remote villages can quickly verify a new customer’s identity by matching their Aadhaar biometrics, and thus offer banking services.

Anecdotal evidence suggests that the scheme has allowed the Indian government to save USD12.4 billion by eliminating middlemen and other transaction costs¹⁴.

At the same time, the gender gap of financial inclusion has shrunk to 6 percentage points from 20 percentage points from 2014 to 2017¹⁵, as more women can receive welfare payments via Aadhaar-linked bank accounts.

This revolution, however, is not without its difficulties. Occasional news reports surrounding mobile devices failing to recognise fingerprints¹⁶ have been around since the launch of Aadhaar.

Nevertheless, there are reasons to remain optimistic. In September 2018, the Supreme Court in India said the Aadhaar scheme was constitutionally valid and meant to help benefits reach the marginalised sections¹⁷.

Beyond personal banking, digital identification technology is also expanding into small business financing; and artificial intelligence is at the forefront.

More than 40% of MSMEs in the least-developed countries reported challenges in obtaining financing – much higher than the 15% in high-income regions¹⁸; the credit value gap thereof is estimated at USD176 billion in developing economies¹⁹.

Despite such potential business, the hefty costs involved in hiring credit approvers have hindered banks and financial institutions from offering loans to MSMEs.

This data intensive nature suggests that lending is a business more suited to machine learning (see Fig. 4) in credit risk modelling, using financial data to predict default risk.

Fig. 4: Applications of artificial intelligence in financial services²⁰

By leveraging the vast power of big data and artificial intelligence algorithms (superseding human approvers), lending companies can now evaluate credit applications and make approval decisions within minutes.

This is particularly important for the developing world, where many depend heavily on agriculture and small business activities to make a living.

To illustrate, Chinese farmers’ access to conventional bank loans has been restricted due to limited credit scoring data and the complicated evaluation process.

This has forced them to secure credit from ‘shadow banks’ and pay exorbitant interest rates. During the planting season, the interest rates could be up to 60% per annum – not to mention the lengthy application process of at least three to five days.

In China, today, it only takes a few minutes over a mobile phone to obtain an unsecured loan of up to RMB 100,000 (USD14,440). This could not be achieved without the algorithmic assessment of credit scoring; and, if necessary, including digital footprints to fill the credit history gap. As a result, interest rates can be lowered to around 10% p.a²¹.

This trend is thriving: Ant Financial Services, for example, has 38.24 million registered farmers in China who use its online loan service²². The fintech company leverages the big data on repayments and sales from Alipay – the largest digital payment platform in China – together with the databases of local banks for pre-approved small amount loans.

The company’s pioneering ‘310 model’ – a small business loan which takes less than ‘three’ minutes to apply for on a mobile phone, less than ‘one’ second to approve and ‘zero’ human intervention – has maintained a low nonperforming loan (NPL) ratio at around 1%²³.

While fintech brings prosperity, insurance acts as a safety net that safeguards households against unexpected medical expenses and crop failures, as well as the risk of slipping back into poverty.

Unfortunately, about 3.8 billion individuals remain uninsured²⁴. This population is therefore vulnerable to the financial shocks associated with the lack of life and property insurance.

Why is it hard to achieve inclusive insurance?

One explanation is that insurance policies are too difficult for the average member of low-income populations to understand.

Simplifying products is a viable option. Insurance products that pay a lump sum for medical costs, for example, are much more acceptable.

Traditional policies are also too expensive for individuals who have little in the way of savings.

Mainly sold digitally in partnership with mobile phone companies and banks, microinsurance offers simple and low-ticket products. Their small and regular premium payments make protection affordable to the low-income group.

In Zimbabwe, for example, Econet Wireless created a weather-indexed microinsurance cover called EcoFarmer, which is aimed at small scale farmers.

This scheme enables farmers to insure their crops against risk of excessive dry days and excessive rainfall for as little as USD2.50 per year (from their prepared phone accounts) for USD25 worth of cover.

So successful is the initiative that EcoFarmer has over 700,000 registered farmers²⁵.

As microinsurance emerges, some 500 million microinsurance policies have been sold globally over the past decade²⁶.

Yet there are still very large uninsured populations in the developing world which insurers can look to attract.

The problem is that financial literacy – knowledge about managing personal finances and how to use the right investment products – remains a challenge.

Regardless of the technology used, financial services must be tailored to the needs of the less-wealthy or first-time users, and those who may have low financial literacy.

Financial advice or guidance, therefore, is one of the key components to making investment decisions, thereby achieving inclusive investing.

Fortunately, robo-advisory services (i.e. chatbots) present a breakthrough in financial education. With automated, algorithm-based robo-advisers, advisory services are now affordable to a broader audience.

With chatbots, investors can now start investing with as little as USD1 – and at about 0.36%, the average management fee is just one third of human advisers²⁷.

Such lower entry thresholds are creating a more inclusive environment for the disadvantaged population, not only in advanced economies, but also in the developing world.

China, for example, has been rapidly developing robo-advisory services. The country now has the world’s second largest robo-advisory market (see Fig. 5), which is driven by individuals seeking investment guidance from robo-advisers and other digital means²⁸.

Fig. 5: China is the only developing economy in the top five robo-advisory markets²⁹

The rise of such fintech, however, has created challenges for traditional financial institutions.

Commercial banks, insurance companies and wealth managers are under pressure to reinvent their infrastructure if they do not want to miss the shifting trend.

Such challenges, if embraced, will translate into a virtuous cycle of impact investing.

Banks in developing countries, for example, could generate additional annual revenues of USD200 billion – about one-fifth of their 2016 revenues³⁰ – if they can help financially excluded individuals and MSMEs gain access to credit.

Insurers that can use mobile phones as alternative channels are more likely to reach out to about 1.5-3 billion policies in the developing world³¹. By providing insurance, such as microinsurance, to protect disadvantaged populations, insurers would also enjoy a larger and diversified risk pool.

That said, collaboration with fintech companies is crucial to unlocking such value, in addition to making positive social impacts.

We believe fintech companies with scalable solutions and technologies – especially those in Asia – will also benefit from the large unbanked population and robust economic growth thereof.

Yet, there is still a need to be selective, as there is a high level of variation in successful fintech innovation among financial institutions and fintech companies. Exotic technology aside, good execution and solid business models are also important.