Fintech and Emerging Economies

The spread of fintech (financial technology), presents itself as an effective strategy of development in emerging economies. It has the capacity to maximize the economic potential of third world countries.  More importantly, the financial exclusion of the world’s poor can be remedied through fintech’s expansion.It will facilitate the lives of individuals lacking access to formal financial institutions.

Source; Rosenfeld Media

This article will begin by describing what fintech is. This will be followed by an analysis of the economic costs of financial exclusion and why certain economies remain financially isolated. Secondly, it will analyze how fintech can reduce financial exclusion and the type of economic, social and political benefits it can create. This article will also demonstrate that fintech alone cannot resolve financial isolation. Following that, this article will look at what strategies governments and financial institutions can use to increase fintech availability and usage.

Fintech refers to the idea that people can access financial services via mobile devices and the internet. These services include payments, transactions, savings and credit. What is revolutionary about this concept is that individuals can enjoy these services without having to step into a bank. Although we take these services for granted, many individuals and businesses in third world countries don’t enjoy them.

In 2016, around . The number of these individuals was concentrated in South Asia (and the Middle East (Within these regions, the groups that tend to be excluded the most are women, the poor and those living in rural areas.

This has serious economic implications since the delivery of reliable financial services is essential to the economic growth of a country. Without formal financial services, cash dependency increases hindering economic growth on several levels. Cash transactions decrease tax revenue for governments since they are harder to track. Cash transactions also imply efficiency costs by requiring greater “manual acceptance, record keeping, counting, storage, security, and transportation”. Lack of productivity entails economic losses but also has serious social consequences in cases of emergency transfers. Rocky financial foundations limit the number investments complicating the growth of entrepreneurship in emerging economies. Yet, investments and entrepreneurship are core assets to economic development.

Several causes explain the high level of financial exclusion in developing countries. One of them is income inequality. Access to financial services is not a priority for individuals earning little, especially if opening and maintaining a bank account is costly. Financial providers see few opportunities in emerging economies. Poor people make frequent transactions at a low amount. Due to low income, they also have limited account balances. Banks and financial providers tend to make money on larger transactions and on more extensive account balances. Financial providers would therefore make losses if the poor were to join the financial system through their services.

On an economic level, fintech has several benefits. It could increase the GDP of emerging economies by $3,7 trillion. Their population would contribute to the growth of their economy through a multiplier effect generated by an increase of financial transactions. The productive aspect of digital finance would accelerate this growth process. New economic sectors would open following the rise of digital finance. This would create a fresh supply of jobs, reaching up to 95 million of them. A rise in employment would trigger a virtuous circle of economic prosperity fueled by consumption in developing countries.

The effects of digital finance on a country’s GDP varies according its present level of economic development. Economies lacking development would benefit more from digital technologies than advanced economies. Nigeria’s GDP could increase by 12,4% and Ethiopia’s by 9,9%. Mexico and China’s GDP would rise at a lower scale, the former at 5% and the latter at 4,2%. This is relevant in showing how fintech’s benefits correlate with economic underdevelopment.

From a political standpoint, fintech is beneficial by increasing transparency. Digital payments require detailed identification making it easier to track down senders and recipients. Fintech could also decrease black markets and informal trafficking through digital verification systems. This implies a reduction in government leakage of expenditure and an increase in tax collection. Through fintech, the state will gather a fairer share of its revenue.

Governments could also lower the cost of large scale public payments through digital transfers. In 2013, a study taking place in Niger showed that the cost of administered public transactions decreased by 20% when completed through digital transfer rather than cash distribution.

Fintech can resolve multiple social burdens imposed by cash transactions. Fintech does not require people traveling long distances since these services can be accessed through mobile devices. Another investigation in Niger demonstrated that time constraints imposed on digitized social transfers only represented a quarter of the time constraints imposed by collect manual cash transfers.

Fintech users will also gain solid financial stability through accounts resistant to external financial shocks. Informal insurance networks between households in emerging economies strengthen and expand through digital payments which will benefit fintech users.

Fintech also introduces a more efficient method for individuals to manage their money. This creates incentives for individuals to save money by setting them in a position where it’s easier for them to do so. In Bolivia, Peru and the Philippines, randomized control trials showed that saving reminders communicated through text message increased savings by 16%. Capacity to save indicates consumer reliability for financial institutions, which could motivate them to expand their financial network in the future. This would allow the world’s poor to access formal financial institutions, decreasing their financial isolation.

In fact, the greatest advantage fintech presents is promoting the financial inclusion of individuals in emerging economies. Digital payments are an entry point for the world’s poor to the formal financial system. They allow users to access basic banking services making it possible for them to send remittances digitally or receive social benefit transfers. Users would be given the opportunity to open accounts, such as e-wallets.

An essential point to note is that fintech alone cannot complete the financial inclusion of the world’s poor. It inevitably relies on other factors to support it. One of these factors is mobile phone penetration, which measures the number of phone users in a given country. By means of mobile devices, individuals can access financial services. This explains the importance of mobile phone penetration in the context of financial inclusion.

For instance, Kenya’s mobile revolution demonstrates that an increase in mobile penetration can be followed by a growth in mobile money customers. In 2009, 15 million Kenyans owned a cell phone and 5 million were mobile money customers. In 2014, 82% of Kenyans owned a cell phone and 61% of them made payments digitally. The surge of mobile payments in Kenya is largely due to an increase of mobile penetration. Hence, Kenya’s mobile revolution also brought with it a mobile payment revolution.

Digital payment service providers are also necessary components to increase financial inclusion. These service providers could include banks, licensed non-banks and other financial institutions. The prominence of mobile money providers like M-PESA in Kenya and Tanzania explain the high number of fintech users. Uganda also has a relatively high rate of fintech users (39%) thanks to MTN Mobile Money.

So far, we’ve seen how the availability of fintech can increase in emerging economies through the spread of a digital infrastructure. Now, it’s essential to focus on how fintech usage can increase. This is where governments and financial institutions have a central role to play.

Governments must implement a supportive regulatory environment to encourage innovation. Innovation is paramount as it reduces costs, spreads fintech access and improves consumer quality. Ultimately, this attracts more customers. To foster innovation, governments have to structure fair legal frameworks encouraging competition.

Mistrust in fintech’s safety and reliability could discourage individuals to adopt it. Cybersecurity concerns are legitimate since digital infrastructures can always be breached by hackers. Robust and protective fintech networks must be implemented by financial institutions to protect private information against theft. Microinsurance schemes protecting low-income people is also a necessity to encourage fintech usage against its risks. These schemes could be provided by financial institutions.

Cultural tendencies affect certain groups preferring traditionally organized financial structures. For instance, Nigeria’s rotating saving clubs are deeply entrenched socially. Others might be attached to cash operated financial services. Due to this, governments must promote fintech’s benefits through consumer education. This can be achieved through large scale public initiatives aiming to raise fintech’s awareness in a population.

Financial exclusion remains an issue that needs to be addressed. It needs to be addressed because it is the source of social burdens, political opacity and economic losses. By presenting itself as a stepping stone to formal financial services, fintech is a solution to this issue. However, fintech alone cannot resolve this problem. It requires the development of a digital ecosystem in which governments and financial institutions have a central role to play. Governments and financial institutions will also need to go beyond fintech’s availability and implement strategies to encourage fintech’s usage.

Quentin Thomas

Quentin Thomas

Policy Intern at InPRA
Currently, I’m a third-year student completing a bachelor of arts degree in Political Science and East Asian Studies at McGill University. I’ve been paying careful attention to international affairs and particularly to politics in East Asia.

More recently, my personal research has been focused on studying and contrasting the political regimes of Japan, China and North Korea. Through InPRA I hope to shed light on unnoticed trends in this region and offer a distinct perspective to readers on world politics. My aspiration is to one day become a diplomat.
Quentin Thomas

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