A Digital Pathway to Financial Inclusion

Payments are the connective tissue of an economic system. They enable people to buy goods, purchase water and electricity, and send money to friends, family, and business partners. They enable governments to collect taxes and disburse social payments. And they enable suppliers to collect payments from buyers. When these transactions are costly and inconvenient, economic activity is impeded. Wealthy households live their financial lives embedded in a digital financial system which “greases the wheels” of their economic activity by making it cheap and easy for them to send and receive payments. Their money sits in a virtual account as ones and zeroes on a server, where it can be transferred with the click of a button. In contrast, 2.5 billion people – most of them poor – are cut off from that system. They store and transfer value through physical assets, such as cash, jewelry, or livestock. This cash-digital divide creates two mutually-reinforcing inequities in the financial lives of poor households. First, it makes it costlier and riskier for poor households to perform basic financial activities – from sending wages to one’s wife and children to financing an investment in fertilizer. Second, it perpetuates the poor’s marginalization from the formal economy by making it prohibitively costly for utility companies, banks, insurance companies, and other institutions to transact with them. We depict what digital financial inclusion would look like and present a growing body of evidence which suggests that connecting poor people to a digital financial system will generate sizable welfare benefits. We argue that countries will not bridge the cash-digital divide in one giant leap. Instead, they will likely pass through four stages of market development along the pathway to an inclusive digital economy. The commercial assets required to navigate this pathway vary across the four stages. Financial regulations and business models must therefore be calibrated to harness those assets at each stage. The cash-digital divide Payments are the connective tissue of a financial system. They link buyers with suppliers, allow governments to transact with their citizens, and connect friends and relatives in webs of financial support networks. Similarly, payments are the building blocks of financial services. Savings is little more than a sequence of deposit payments from the customer to the bank and withdrawal payments from the bank to the customer. Credit involves loan disbursements to the customer followed by repayments to the bank. If it is too costly for banks and insurance companies to make (or accept) these payments, they won’t offer the underlying financial service. 1 Dan Radcliffe is a Program Officer and Rodger Voorhies a Director in the Bill & Melinda Gates Foundation’s Financial Services for the Poor team. The paper incorporates generous comments from Tilman Ehrbeck, Simone di Castri, Ignacio Mas, and David Porteous. Special thanks to the FSP team for developing many of these concepts. 2 While transaction costs are the primary barrier preventing poor people from accessing formal financial services, they are not the only barrier. Indeed, poor people are excluded from the financial system due to (among other factors) products that aren’t attuned to their needs, discrimination by bank staff who do not want poor people in their banking halls, and minimum balance requirements and service fees that exclude poor customers.