Digital Finance: The View from USAID

April 14, 2015

This week, the topic of financial inclusion will garner attention as the World Bank uses its spring meetings to lay out a roadmap toward universal financial access and releases new data via the Global Financial Inclusion Database. As USAID seeks to harness the power of science, technology, innovation and partnerships, we are increasingly focusing on digital finance as the critical pathway toward scaling meaningful financial inclusion. But what does that mean? What is our role in services primarily offered by banks and mobile network operators? Lawrence Camp notes that mobilizing private capital entails “using public funds to encourage investment that will result in private profit, but which will also have a development impact.” In many ways, this definition captures USAID’s approach to accelerating the growth of commercially sustainable digital payments systems. 

Donors — USAID included — will never be the providers of financial services. But we often have a critical role to play in setting the conditions so that the private sector can fill the void that has left more than 2 billion people globally without access to safe, affordable basic financial management tools and forces governments, businesses and individuals to transact in cash, which is expensive, dangerous, inefficient and enables corruption. This blog series will outline USAID’s contribution to meeting the audacious goal of universal financial access through the creation of enduring, inclusive market infrastructure.

We’ve come a long way since financial inclusion pioneers like Muhammad Yunus developed lending models designed explicitly for the poor. The microfinance industry has proven that the poor are in fact “bankable” — not only are they willing to pay for small loans, but business models to provide these services can be sustainable and even profitable. Yet despite impressive gains by microfinance — reaching some 200 million customers over the past few decades — the high costs of administering small loans limits the scale, affordability and relevance of the services. Further, microcredit models do not address the systemic costs (both financial and social) incurred by economies mired in cash-based transactions.  

Technology + Agents = Presence and Scale

But times are changing. Digital channels (first and foremost, basic mobile telephone service, but soon low-cost smartphones connected to the Internet) coupled with business model innovations that empower consumers to transact from their handsets or with nearby agents embedded in the local economy are stripping the costs out of financial transactions. The more that costs can be reduced, the greater the possibility of sustainably reaching the global poor. Just as importantly, the cost-savings and the data “windows” into customers offered by digital transactions give providers an unprecedented opportunity to create flexible, affordable products designed explicitly to meet the needs of those struggling to escape poverty. These digital financial services typically begin with basic mobile payments — such as the iconic M-Pesa in Kenya — but then evolve to offer more sophisticated products such as savings accounts and small, on-demand loans.

Digital financial services, where they are succeeding commercially, are literally changing the financial inclusion landscape. In Tanzania, the rate of exclusion (from both formal and informal services) for rural adults fell 42 percent from 2009 to 2013 — largely due to millions accessing financial services for the first time through mobile phones. And consider M-Shwari, a formal, interest-bearing savings account offered by the Commercial Bank of Africa through Safaricom’s M-Pesa platform. In under three years, more than 10 million consumers (41 percent of them women) opened accounts in order to save and to obtain 30-day loans that are automatically approved based on mobile and M-Pesa transaction histories.

Financial Inclusion Is Only Half the Story

And while expanding access to financial services is an urgent and compelling development priority, we are also seeing digital financial systems unlock an unprecedented opportunity to build lasting, inclusive economic infrastructure that works for everyone, including the poor. As these foundational digital payments networks grow, we are witnessing the growth of critical market infrastructure that simply was not possible to build or sustain without connectivity and motivated service providers. These digital payment “rails” can improve governance by instilling efficiency and transparency into government payments and revenue collection. They expand policy makers’ options for social protection programming by enabling direct benefits transfers. And they provide a foundation for new business models, including pay-as-you-go energy, where digital payments are the key to a novel consumer-asset financing model for extending electricity to the 1.3 billion people who still lack access. 

Yet for all the promise these systems offer, in most countries they are not organically growing at the rate we need them to in order to meet our ambitious targets for poverty alleviation globally. While constraints vary by market, they tend to follow common themes — overly restrictive regulatory regimes; unclear demand; lack of interoperability between service providers; poor product design; insufficient investment in agent networks and liquidity; and costly transaction fees (especially when compared to the hidden costs of cash), to name a few. 

The Role of Donors

This is where donors such as USAID can help fill the gaps by partnering with governments and providers to improve the regulatory and policy environment and bolster the commercial case so that service providers are motivated to invest in well-designed services that can scale rapidly. Investments by donors and governments in the back-end financial infrastructure can vastly reduce the costs associated with financial transactions. Additionally, harnessing the spending power of governments and donors funding high volume, low value payments, such as social protection programs, can be important sources of early business for digital payment providers.

USAID, present in over 70 countries and charged with leading U.S. government efforts to end extreme poverty around the globe, brings powerful tools to the fight against financial exclusion. Every day, USAID personnel are working with host country officials in central banks and finance ministries who make the “rules” that govern the financial sector — a tremendous opportunity to support informed decisions and bolster institutional capacity to shape the industry and supervise commercial providers. And through our programs and partners, we are serving vulnerable populations, such as rural smallholders whose resilience and productivity could be improved by relevant, affordable financial products like as flexible credit. Aggregating demand among our programs is proving to be a powerful driver of the supply of services tailored to the needs of the poor, who are often less literate and more rural than the early adopters of digital financial services.

We’ve learned a great deal over the past few years about USAID’s comparative advantages in fostering the growth of commercially viable digital financial services sectors. As the blog series continues, we will lay out how USAID and its partners around the world can most powerfully contribute to advancing financial inclusion and building lasting, inclusive economic infrastructure that can improve governance and foster socio-economic innovation. Specifically, we are focusing our efforts on fostering the policy and regulatory environments needed for safe financial services to flourish and creating pathways for digital financial services to help meet the Agency’s broader development goals in agriculture, power and humanitarian response/social protection — all topics to be covered in this series. We invite you to join the conversation.