Across the world people have had to endure high levels of inflation due to the effects of the pandemic, the UK is no different with inflation reaching a 40-year high of 11.1%. The ONS estimated that households are on average paying 88% more for their electricity, gas, and other fuels than they were a year ago. Energy price rises, or more generally the increased cost of living, is likely to hit lower income households disproportionately, as they spend a higher proportion of their income on utility bills. With traditional banking not being a plausible option to finance these increased costs many people have turned to fintech companies for cheaper financial products. Therefore, this article seeks to understand the extent to which fintech companies are helping to reduce financial exclusion.
An overview
Financial inclusion can be defined as giving individuals access to useful and affordable financial products regardless of their socio-economic background. Historically, traditional banks have neglected to serve the unbanked (when a person does not have a bank account of any form) and the underbanked (someone choosing a more affordable method of financial services other than a bank) as they geared the sales of their services toward people who are likely to bring them a return. This is not only evident amongst UK banks but globally for instance, in the USA it is estimated that in 2021 5.9 million were unbanked with 21% of unbanked households citing that the primary reason for not having an account is due to them not having sufficient funds to keep in their bank account. This often means that the unbanked have to pay a poverty premium as they do not have access to financial services.
A telling example of this is seen across the UK, where one in eight households experiences at least one type of poverty premium, paying on average £430 a year in extra costs. This is the case for basic services such as energy and insurance where they haven’t been designed with underbanked consumers in mind. As low-income households tend to be on zero-hour contracts or paid weekly with uneven income levels. Therefore, they cannot afford to make cheaper annual payments and instead are charged high levels of interest to pay monthly.
Fintech defined
As the fintech ecosystem contains a multitude of players it often makes it confusing to distinguish them apart. According to McKinsey, the fintech ecosystem can be simplified into the following categories:
1. Fintech as new entrants: this mainly includes start-ups looking to enter the financial services sector using new approaches and technologies
2. Fintechs as incumbent financial institutions: existing players that are investing heavily in technology to improve performance, respond to competition and capture investment opportunities
3. Fintechs as ecosystems orchestrated by large technology companies: offering financial services to existing platforms and to monetise current user data e.g. AliPay supporting Alibaba’s e-commerce platform
4. Fintech as infrastructure providers: third parties selling services to financial institutions to help them digitise their current technological capabilities, improve risk management and customer experience
This article largely focuses on the impact new entrants and large technology companies have on financial inclusion as digital banks and payment companies have drawn significant investment in recent years. As a result, this enabled start-ups such as M-Pesa to develop products with the underbanked in mind.
Right direction
Fintech companies have become more financially inclusive as they started to develop financial products that focused on the reduction of costs in cross-border payments and increased access to credit for businesses and households in certain markets.
Firstly, fintech companies were able to integrate the use of blockchain technology to expand their product offering and make it cheaper for individuals to send money abroad. One prominent player in the cross-border payments space is Ripple. The fintech launched a digital asset, XRP which makes the transfer of two currencies faster, cheaper, and more reliable. Using their expansive global blockchain network Ripple was able to cut settlement time of cross-border transactions from three days down to three seconds.
Additionally, some fintech companies are starting to offer micro loans that enable households and companies to borrow small sums of money for short periods of time which is something that traditional banks cannot offer as they wouldn’t be able to cover their cost of lending. This is seen in China where Ant Group offers loans as low as £2 for individuals. Similarly, they offer small and medium-sized businesses with affordable loans, with interest rates starting from 6.8% per annum. In spite of cheaper credit options accelerating financial inclusion in the short-term there are concerns around the long-term implications of such offers. This is because borrowers who miss their loan repayments can quickly end up being blacklisted by credit bureaus, making it costly and time-consuming for borrowers to turn around this bad credit.
Room for improvement
Despite fintech’s effort in promoting financial inclusion there still remains questions regarding
the feasibility of reaching the poorest countries as fintech solutions are often country specific. Thus, solutions that might have worked in one country may fail in another. For example, a person in the UK might benefit from using Ripple’s cross-border payment system if they were sending money to a country that already has a relatively stable exchange rate. However, in some countries like Rwanda and South Sudan fintechs might struggle to deliver competitive rates as these countries have volatile exchange rates, poor infrastructure, low levels of financial literacy and few service points where people can go and collect or send money. This makes it increasingly more difficult for the poorest economies to use such offerings as they would still find it relatively expensive to use. To address Africa’s fragmented market start-ups will need to prioritise making digital payments truly cross-border which can be achieved through developing a unified fintech platform.
Conclusion
As a whole, fintech is undeniably contributing to financial inclusion as it is successfully expanding financial services to those living abroad in low-income households and in underdeveloped regions, through low-cost payment offerings. The advancement of digital payments has had significant positive benefits in emerging markets such as Kenya, China and Indonesia which is partly due to governments lowering costs and increasing transaction limits. Overall, it is evident that digital finance alone can’t fully close the gaps on financial inclusion as it is also necessary for governments to intervene for true financial equity to be reached.
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