Financial services are a key tool for improving the lives of poor households.

But we still know far too little about how to make finance work best for those who need it most. Our research provide a framework for policymakers, investors, service providers, and researchers to think about the opportunities and challenges of financial inclusion. Explore each category above for the latest thinking and analysis, including tips from experts in the field, and the best data, information, and analysis from around the web.

What is needed to make digital payments attractive for poor households?  

Cash is the main way of exchanging value for most poor households around the world and is cash is generally reliable, available, and cheap in relation to alternatives. However, it comes with significant (and often hidden) risks and costs such as theft or left and requires the use of informal transfer mechanisms.

By making cash virtual, digital payment systems ought, in principle, to help people conduct financial transactions at a lower cost while also leaving more of a trail, which might help them get credit or handle business disputes. But advocates of the theoretical benefits often miss the costs incurred by users. Digital payments often come with fees and involve effort to set up accounts and learn new technologies.

Several factors affect the ability of digital payment systems to provide enough benefit to consumers to outweigh these costs such as network penetration, availability of cash in/cash out points, trust, acceptance as a store of value, and integration with other financial tools.

How will digital payments evolve?  

Digital payments may be an important part promoting financial inclusion worldwide. But the needs and vagaries of local contexts within countries make it unlikely that any single company or system can adequately meet customer demands at an affordable price. Banking is simply not a mass-market offering in most developing countries. Telecom operators often serve a mass market, but are rarely familiar with the regulatory framework for providing financial services.

Digital financial services may use a such a horizontally-layered delivery model, made up of mobile operators supplying secure messaging services, banks adding complementary financial services (like commitment savings accounts, loans, and insurance products) to the basic electronic account proposition; retailers handling cash in/out services; and billers and other businesses creating additional customer value. While there is obvious appeal to such a system, it requires a support structure of contracts, investments, and enabling business models that provide security, interoperability, and low-cost services.

Can digital payments be an effective gateway to other financial services?  

First, person-to-person payments in themselves can be a form of informal group-based financial services. When people can draw on person-to-person payments in situations of exceptional need, their families or social networks become informal insurance mechanisms.

On the supply side, efficient and extensive retail payment networks can be important drivers for the extension of formal financial services to previously unbanked segments. Digital payment transaction histories may serve as a supplement or an alternative to a credit rating for evaluating potential borrowers. On the demand side, the ability to receive and collect money has indeed been a strong driver for account-opening in many countries. Once those accounts are opened, customers may over time leave higher balances or be cross-sold credit and insurance products. In short, when customers are connected to an e-payment system, their range of financial possibilities may expand dramatically.

Electronic payments may be a powerful way for new-to-banking customers to come to trust formal financial services and the financial institutions that are behind it depending on how such systems are branded and what combination of service providers delivers the product.

How can regulators balance access, security, stability, and consumer protection?  

When it comes to setting regulation for basic access, regulators face a number of trade-offs created by balancing the creation of new digital products for financial inclusion with protecting the interests of a wide range of stakeholders. This issue manifests itself in many ways:

  • Innovation vs. Financial Stability: To enable innovation, regulations need to allow new players and business models while not imposing such high costs that innovators and investors are scared away. At the same time, regulators cannot abandon the responsibility to protect customers and the stability of the financial system as a whole.
  • Growing Networks vs. Fighting Crime: Law enforcement officials worry that speedier and lower-cost electronic payment mechanisms can make it easier for criminals to engage in illegal activities. However, stiff know-your-customer rules on electronic banking may be delaying digital financial inclusion.
  • Interoperability vs. Investment Incentives: The value of electronic payments will be maximized if there is a single, nationally interconnected network. But there is a risk that if interconnection were mandated at an early stage of development of a network, it might actually kill off innovation and incentives for growth.
  • Consumer Protection vs. Ease of Use: Ensuring adequate financial consumer protection ought to be particularly important when people begin using formal financial services for the first time. However, consumer protection rules do sometimes have the effect of raising the cost of services and/or placing a higher burden on the customer in using them.

Why save?  

For the world’s poor, who experience frequent economic shocks (health crises, weather crises or natural disasters, loss of wage income), the value of savings as insurance can be particularly high. Yet we don’t see the poor accumulating assets by saving in large quantity.

The strong demand for microcredit adds to the puzzle. Strong demand for credit, even at relatively high interest rates, should indicate that borrowers experience higher returns to capita, making the loans profitable. But if there are such high returns to capital we should see even stronger demand for savings. That would allow borrowers to self-fund their capital needs, generating a much greater surplus. So how can we make sense of the strong demand for expensive microcredit but the relatively low level of savings? Research is illuminating several areas of this question, helping us move closer to an answer.

Can savings be delivered profitably?  

Providing savings, unlike credit, does not have a built-in return to cover the costs of service provision and complying with regulations. Profitability must come from elsewhere—either service fees or from investing the accumulated assets. Delivering useful savings products is difficult in any environment but it is even more so when serving the poor. Poorer customers want low-cost accounts designed for small transactions which provide high returns.

Innovative technologies and business models are starting to provide hope that offering savings to the poor can become sustainable. More MFIs could take deposits to fund lending. Mobile banking and other technological advances like M-Pesa hold the promise of dramatically lowering per-transaction costs. Village savings and loans associations, credit unions, no-frills accounts, commitment savings accounts and savings banks all hold promise for changing the cost structure of providing savings.

Still there are no “solutions” yet to the problem of the high cost of delivering savings to poor customers. Further investigation is required to determine what types of mobile banking actually lower transaction costs for both customers and providers.

Where are the new big ideas in savings?  

Two forms of savings product innovation are capturing a great deal of attention—the first is mobile banking. Mobile banking offers the promise of convenience and cheaper costs, making it easier to spread banking in remote regions and giving more options for busy customers. Some early attempts at mobile savings have suffered from low take-up rates and struggled with regulatory barriers. The promise, though, is clear.

A second area of innovation is based on ideas drawn from behavioral economics. Products are finding success by creating structures that help people pay attention, maintain discipline, and create more order in their financial lives. The ideas, like commitment accounts, are simple to implement and so far appear surprisingly effective—and in surprising ways.

How do people save?  

Assessing the extent and use of savings among the poor has long been hampered by a limited view of what constitutes savings. “Savings” are often considered narrowly as accumulations in bank accounts with balances that are held for long periods of time.

Recent work has given us a better understanding of the financial lives of the poor—including the use of very short-term savings via a wide variety of mechanisms. The typical participant in the Portfolios of the Poor research moved much more than their annual income through various financial transactions during the year. People were constantly building up and drawing down very short term savings balances throughout the year. But if you looked at the change in their balances from year to year, there was usually relatively little increase.

Poor households often seem to put their long term savings into other forms of capital. One savings mechanism that is not frequently counted is investing in children’s education. In many countries the returns to education are quite high—and children are expected to use earnings to support extended family. Investing current income to generate future income via education is therefore a form of savings. Another mechanism for saving is investment in a family-run microenterprise. If investment in a microenterprise helps secure a steady future income, it can perhaps be thought of as a form of annuity. Finally, poor households also invest in durable goods, livestock and jewelry. They are not typically thought of as savings—but they are all assets that hold value, and are often highly liquid in that they can be exchanged for cash for other valuables (and quite possibly far more liquid than a bank account).

While research is broadening our understanding of the savings behavior of the poor beyond formal long-term savings, access to more traditional savings products is also expanding rapidly due to technological, business model and regulatory changes. Regulatory approval of savings transactions via mobile banking could suddenly provide access to formal savings accounts for millions of people.

So what is the current state of savings around the world? The best estimates of formal bank and semi-formal bank accounts recently can be found at The Global Financial Inclusion (Global Findex) Database. More and better data is constantly emerging to give us a better view of the current state of savings—though new data often leads to more questions and illustrates the limitations of the data we already have. Where is access to and use of savings growing? Where is access to savings stagnating?

Why borrow?  

At the most basic level, credit provides the opportunity to move consumption or investment to the present. Borrowing can help smooth periodic ups and downs caused by the irregular income flows common in poor families. Borrowing also allows families to acquire a “usefully large” sum of money to be used for a big purchase. As a result, microcredit loans—even microloans targeted to entrepreneurs—are used in a variety of ways.

Borrowing also has a useful commitment device attached; it is harder to skip periodic payments to a lender than to skip deposits to yourself via savings. It is also often easier for a poor household to obtain a loan than a convenient savings account. If you have already managed to put away some savings, you have a good reason to want to protect them, maybe even by borrowing. Another implication is that if you don’t have great ways to save, microcredit borrowing can be a substitute accumulation device. In the end, saving and borrowing are often complements, not substitutes.

So why not borrow? Take-up rates of microcredit in poor communities are always well under 100 percent, and usually well under 50 percent. Some families choose to ration their use of credit out of fear of over-indebtedness. Other households may not borrow because the credit products available are expensive or do not suit their particular borrowing needs.

What credit products serve the needs of poor households?  

Part of the microfinance narrative is that households who cannot access microcredit are at the mercy of moneylenders charging them exorbitant interest rates to borrow small sums of money. However, this rhetoric is misleading. Households end up using loans for a range of purposes, even if the original intent was to finance business investment. Also, using the “group lending” or “joint liability” contract remains common, but other incentive mechanisms usually matter more than group lending. Dynamic incentives matter especially—promising another loan in the future only if the current loan is paid off.

The financial needs of households are complex. It should come as no surprise, then, that a “one size fits all” approach to microcredit products does not meet the borrowing needs of many poor households. It may be that some of the same features cited as crucial to the initial success of microcredit are now responsible for limiting its reach.. The irregular incomes of poor people make products payable in small installments attractive, but there have been calls for even greater flexibility. Loans available in times of emergency are also highly valued but infrequently offered by microfinance institutions.

Should microcredit be sustainable?  

Sustainability is often viewed as the path that microcredit programs must follow if they hope to scale-up and reach the poorest and most isolated communities. How does subsidy, implicit or otherwise, change the way that MFIs provide services? Reviewing data from institutions around the world, it appears there is a tradeoff between sustainability and outreach: the institutions likely to be most attractive to investors are not those that reach the greatest number of women and poorer clients. Another method, which models the ideal profit-maximizing costs of an institution and compares it to actual performance, finds that greater efficiency is associated with less outreach to the poor. Reaching poor, higher-cost clients does not necessarily preclude profitability, but serving relatively wealthier communities can provide the margin to fund expansion and broader outreach. The sector continues to struggle with key questions: What are the true costs of pursuing sustainability? Will ongoing innovation in service delivery make it possible to reach poor and isolated communities in a sustainable way?

What can regulators do to balance protection and inclusion?  

Macro- and regional financial crises have shown that regulation is necessary to protect consumers and maintain the stability of the financial system. Regulation imposes its own costs, as institutions must enact new processes to comply with supervisory requirements. These costs are not trivial and cross-country evidence shows that regulation decreases outreach as institutions fulfilling the costs of compliance compensate by lending larger sums (which may be riskier for borrowers) and targeting wealthier clients. The increased costs of compliance can also raise barriers to entry, limiting the entrance of new providers.

Many in the microfinance industry have pushed for institutions to adopt measures for self-regulation. The Smart Campaign, for example, promotes Client Protection Principles that include avoidance of over-indebtedness, transparent and responsible pricing, appropriate collections practices, ethical staff behavior, mechanisms for grievances, and privacy of client data. The Alliance for Financial Inclusion (AFI) has a Financial Integrity Working Group, a platform where practitioners can share country-specific information on promoting financial integrity and inclusion. In the area of government regulation, the Consultative Group to Assist the Poor (CGAP) developed the Microfinance Consensus Guidelines, which outline areas of general industry and expert agreement on best practices in microfinance regulation. These principles will be a success if their implementation is as good in practice as the words are on paper.

How should households protect themselves from risk?  

Households use a variety of strategies to protect themselves from misfortune. Some may be extreme like migrating to less risky locations or selling off assets. Others are strategic or informal such as seeking preventive healthcare, building savings, and developing networks of family and friends for assistance. Formal insurance may be the last resort for most households after all other possible mechanisms for risk protection become unworkable.

If they are tenable, many alternative options for insuring against risk work better than what is offered by formal insurance providers. Savings and credit, for instance, are more flexible and can fulfill multiple goals simultaneously. Formal insurance has a big edge in dealing with catastrophic losses, but unfavorable contractual terms can tip the balance back to informal mechanisms.

Helping households cope better means improving options beyond what is narrowly described as insurance. Ready access to emergency loans, for example, can go far.  So can programs and mechanisms to help build-up emergency savings. Formal insurance deserves investment when risks are big and informal options are weak.

How will microinsurance be delivered?  

Households face a lot of risk and tend to be under-insured, so the potential market is large. But the business model for delivering insurance is challenging when many small-sized premia need to be collected, and monitoring costs are hard to slash. Costs are still too high for providers and perceived value is still too low for many consumers. 

A promising start has been partnerships between insurers and microfinance institutions, cooperatives, or community-based organizations. The partnership model has the benefit of capitalizing on the familiarity and trust that borrowers or savers have with their microfinance institution. The insurance companies provide experience with product design and access to methods to spread risk more efficiently.

In an effort to achieve scale, new channels are emerging. Retailers (supermarkets and durable goods stores), utility companies, and bill payment providers are entering the  market. While there have been promising new ideas in product design, the success of microinsurance in going to scale depends in getting the business case right, and so far that’s a work in progress.

Which insurance innovations matter?  

New, innovative insurance products like index insurance promise (at least partial) relief from problems like moral hazard and adverse selection. Index insurance relies on an objective measure to trigger payouts rather than an estimate of actual damage incurred by clients. For example, rather than paying out when a farmer’s harvest actually fails, rainfall insurance pays out when rain levels are too low or too high, as measured in a local weather station.

Another example of index insurance is “hospital cash.” Unlike a traditional health insurance product that reimburses a client for medical acts, “hospital cash” pays out after the client has spent a certain number of days in the hospital. Transaction costs are mitigated by the fact that such claims are easier to verify, and moral hazard is reduced since individuals are unlikely to neglect their health to the point of needing a multi-day hospital stay.

But index insurance products are not a panacea; some pieces of the index puzzle remain to be figured out. One puzzle is how to overcome basis risk: the discrepancy between the objective measurement that triggers the payout and the actual losses incurred by the insured. For instance, if a weather station is located far from a farmer’s plot of land, she may suffer catastrophic drought even though enough rain falls at the station. An insurance product is not helpful if it does not help cover actual losses.

How can take-up of valuable insurance products be improved?  

We know that poor households face a lot of risk, and that their existing risk management strategies are usually insufficient. So, in theory, the demand for microinsurance should be high. Yet, participation in microinsurance remains loW. Why are insurance products not more highly demanded by poor households, even when the price is favorable?

Poor households typically insure through social networks, with payout based on mutual obligation, long-term relationships and actual loss. In comparison, formal insurance is based on time-limited risk-sharing between strangers. Formal insurance is arguably the most complex financial product poor households may make use of—the fact that many households don’t understand it, even in mature markets, should perhaps be less surprising than it is.

Other important challenges include:

  • Uninsurable risks. One factor is that not every risk is insurable. It’s hard to insure against downturns in the economy, for example, or losing your job. In those cases, most people end up drawing on their own resources
  • Price. Price decreases, subsidies, and vouchers lead to large increases in microinsurance purchase rates.
  • Marketing and convenience. Helping poor households understand the need for insurance and the contracts, through financial literacy programs, information, social networks or framing cues, has been shown to boost participation. The convenience of enrollment or purchase also appears to be an important determinant of participation.
  • Trust. Perhaps because formal insurance markets are new in many developing countries, potential clients are much more likely to purchase insurance when they trust the insurer’s promise that it will be there when needed.

In short, the list of barriers and challenges is long.