Cashing In on the Digital Revolution Finance & Development, June 2016, Vol. 53, No. 2
Njuguna Ndung’u, Armando Morales, and Lydia Ndirangu
Digitization makes finance accessible, lowers costs, and creates opportunity
It is the topic du jour for policymakers in almost every developing economy—especially in sub-Saharan Africa. Financial inclusion makes saving easier and enables accumulation and diversification of assets, boosting economic activity in the process. As its economies continue to grow, the region must take one crucial step if it wants to escape the poverty trap, and even more so now as commodity exporters face a downward terms-of-trade trend: deliver more financial services to people and institutions.
Yet access to financial services for the poor has been limited. Minimum bank balance requirements, high ledger fees (costs for maintaining micro accounts), and the distance between poor people’s homes and bank outlets hinder their access to financial services and credit. Moreover, unaffordable “collateral technology” (the system of fixed assets required for loan approval) raises costs more than anything else, and the financial products available are often not suitable for customers with low and irregular income.
Banks have had to bear high costs to provide financial services to the poor. Market segmentation, low technological development, informality, and weak regulation increase the costs of doing business. In Kenya, and in Africa more broadly, markets are heavily segmented according to income, niche, and location, and their sophistication, level of development, and formality or informality reflect that segmentation.
High customer-monitoring costs, perceived higher risk, and a lack of transparent information have been almost insurmountable challenges for banks, and microfinance and other specialized institutions have not been able to fill the gap.
A new landscapeThe global financial crisis changed the landscape. Foreign banks scaled back their activities in some African countries, while new local banks increased their presence. The relative success of microfinance institutions in some countries (especially those that introduced a new technological platform to manage micro savings and deposit accounts) encouraged domestic banks to expand their networks. At the same time, nonbank financial institutions, such as savings and loans and cooperatives, formalized their activities. In response, regulators began introducing alternative models that helped cut intermediation costs. For example, agency banking allowed banks to locate nontraditional outlets in remote areas where brick-and-mortar branches and outlets are not financially feasible. Bank representatives at such outlets can perform authorized tasks, such as opening bank accounts, processing loan applications and loan repayments, and so forth.
These changes were driven by demand. Market participants pressured regulators to build their capacity to cope with innovations and to develop institutions to support financial sector growth. Greater credit information sharing and the development of information for market participants, deposit insurance, and financial intelligence units generated a virtuous circle.
But these changes pale compared with the transformation introduced by the emergence and low cost of digital financial services. In Kenya...