By Stijn Claessens (May 2005)
Abstract
The author analyzes the fact that financial sector services are not accessible to all-in neither developed nor developing countries-and reviews alternative policies to increase access. After reviewing the evidence that associates financial sector development with growth, the author argues that political economy interventions could have perverse effects, hurting lower-income households, but that financial education, increased competition, more infrastructure and the use of technology are considered better policy alternatives to promote access. In his analysis, the author finds that there is no market failure and that achieving "universal access" is not necessarily a public policy goal.
Key points highlighted in this paper are:
- Macro and micro evidence suggests that financial sector development is important for growth and poverty. Also, it is a fact that access to finance is skewed towards the more affluent in both developed and developing countries.
- Lack of access to financial services is closely related to other socio-economic indicators, thus suggesting that financial exclusion is part of a wider exclusion. Also, access to finance is related to institutional development, such as the quality of mainstream banking, the overall development of the economy, etc.
- Direct policy intervention, such as subsidies or targeting specific sectors, may distort markets without relaxing the constraints for the unbanked.
- Preferred interventions should be directed to improve the institutional environment by allowing more competition in the banking sector and allowing the entrance of foreign banks. Also, encouraging wage and payroll payments electronically as well as government related payments (e.g. taxes, social security, etc.) through banks would encourage access to banks.
Summary
Finance matters for growth. There is sufficient evidence to say that developed financial systems have an impact on investment and economic development. Additionally, some authors have found evidence that financial depth matters for inequality and poverty reduction. However, are these facts enough to encourage "access for all," given that even in the most developed financial markets, finance is not available for all?
In order to be able to assess whether there is a case for public policy to encourage financial inclusion, the author presents the following arguments:
- Existing data estimates that 90% of households in developed countries use bank accounts, compared to 26% in developing countries and only 10% in the lowest-income countries. However, little is known about the characteristics of the unbanked.
- Finance exclusion is related primarily to socio-economic indicators, such as income, wealth and education. Data available also shows that the cost of being unbanked is close to 2.5% of median income in the US and 5% in Mexico.
- Barriers to access show, as identified by the unbanked, are: time consuming process, high rejection rates, literacy needed; while financial institutions considered small enterprises and small households too risky and too high-cost.
- The reasons behind having inadequate products and services to meet the needs of the unbanked are: developing infrastructure can be expensive in places with low population density, lack of security makes in-cash transfers expensive, costs are high for small-amount transactions.
- Institutional barriers also affect access to finance. Evidence shows that overall general development, quality of mainstream banking (intermediation spreads and profitability), existence of banks with the specific purpose to serve specific sectors, regulation, etc. impact the degree of financial deepening.
Based on the elements above, the author suggests the following strategies to promote access to finance:
- Increased competition in the financial sector would encourage banks and other financial institutions to develop products for the unbanked. Also, the entrance of foreign banks can have a positive impact in the overall financial sector.
- Avoid priority lending strategies or subsidies which distort markets and create perverse incentives.
- Encourage wage and payroll payments electronically, as well as government related payments (e.g. taxes, social security, etc.) through banks, which encourages access.
- Promote the use of technologies to reduce transaction costs and promote alliances between banks and other networks such as the postal service that allows them to share infrastructure and reduce costs.
Finally, the author highlights that there is no evidence of market failure and that direct intervention in the market could end up affecting lower income households. Additionally, he states that "universal access" should not be a goal for public policy.