To make markets work better for the poor, stakeholders interested in increasing financial inclusion must take a market systems approach and consider both the demand for and supply of financial services. In The New Microfinance: Taking a Financial Market System Perspective – Part I, I suggested it was of key importance for the microfinance industry to acknowledge the multitude of financial service providers, both institutional and community-based, both formal and informal. And that ultimately, in order to increase and improve supply we need to better understand demand: specifically how poor people behave and manage their financial lives and what their financial service needs are. Part of this understanding is to acknowledge that poor people, like those not so poor, need financial services for many different purposes.
Credit alleviates poverty?
Historically, the focus has been on credit for productive investment. As stakeholders become more aware of the realities of how the poor manage their economic lives, we are beginning to question the assumption that taking on debt to invest in a microenterprise as a primary means to alleviate poverty. Researchers have begun to critically examine the impact credit has on people’s lives, and are beginning to acknowledge that poor people use financial services for purposes very similar to people everywhere:
That is, financial services—both savings and credit—are needed to manage cash flows and smooth erratic incomes. The amounts are tiny, the needs are often immediate, and the number of transactions high. And the reality is, small, frequent transactions are difficult for most institutions to provide sustainably.
Secondly, poor people, often by virtue of being poor, deal with large amounts of risk in their lives. Financial services—credit, savings, insurance, and payments—can contribute significantly to managing risk but again, services are often needed very quickly and potentially in amounts too small for institutions to provide, and to provide in a timely manner.
Third, poor people need financial services to help build assets, and they use a variety of financial products to do so from a variety of providers. Helping to accumulate lump sums is a fundamental need that financial services can support.
And lastly, poor people may also use financial services to invest in productive activities—which is where traditional microfinance has focused almost exclusively. Yet, it is often not the primary financial service that most people need.
For example, if a poor farmer had the ability to save or borrow an amount of money that would allow her to buy food to get through the hungry season before she harvests her crops, she could avoid “pre-selling” the harvest—which in some countries results in a 50 or 60 percent discount. If she could get through the hungry season, she could then sell her harvest at 100 percent of the market price and ideally, when prices are highest. So without actually using credit to invest in a productive business, but rather to provide food security for a couple of months, her income could rise substantially simply by not having to pre-sell her harvest.
Acknowledging the different financial service needs or poor people and working together to genuinely meet these needs in a way that is sustainable, affordable, and accessible would go a long way to improving the quality of poor people’s lives. It is likely technology will play a key role going forward but it is not enough to focus only on supply. Technology will only be the game changer if the services provided present a better value proposition than what people currently have.
I would argue, the importance of really putting clients at the forefront of our work—understanding consumer behaviour and financial service needs, and matching supply to genuinely meet those needs, is key to sustainably increasing financial inclusion.
Joanna Ledgerwood is the author and editor of The New Microfinance Handbook, published by the World Bank on February 18, which addresses the need for increased financial inclusion by examining the financial market system, beginning with client needs.