A Big Step Forward for Bolstering Financial Inclusion

IMF Blog, January 28, 2015

Source details

Authors: David Marston, Era Dabla-Norris, D. Filiz Unsal
Publication date: January 28, 2015
Purpose: Present a new framework to identify barriers to financial inclusion, estimate how removing those barriers affects country output and inequality, and evaluate policy levers to promote inclusion.

Large gaps in global access to finance:
- "Slightly more than half of the firms (58 percent) in developing countries and only one-fifth of those in low-income countries have access to bank credit."
Binding barriers for firms, especially small and medium-sized enterprises:
- High costs, travel distance, onerous paperwork.
- Limited credit, high collateral requirements, high interest rates.
Economic consequences documented:
- Individuals rely on limited savings to become entrepreneurs.
- Fledgling enterprises depend on self-financing for investment needs, limiting firm size, innovation, and productivity.

Countries analyzed:
- Low-income: Kenya, Mozambique, Uganda.
- Emerging markets: Egypt, Malaysia, Philippines.
Key cross-country findings:
- Disentangling constraints is crucial; policy impact depends on country-specific characteristics.
- Example: Uganda’s output is most responsive to relaxing collateral requirements (identified as the most binding constraint).
- Example: Malaysia’s major obstacle is high participation costs for access to financial services.
- Financial inclusion increases output, but effects on inequality vary:
- Reducing the cost of accessing financial services can reduce income inequality as previously excluded enterprises obtain credit and workers receive higher wages.
- Relaxing collateral requirements may initially increase inequality because wealthy firms use less collateral to leverage more, increasing production and profit; over time, as banks lower collateral requirements, relatively poorer agents gain and inequality can decline.
- Distributional consequences can be sharp:
- Lowering participation costs tends to benefit the poor, while wealthy firms may lose somewhat due to higher interest rates and wages.
- Policies targeting financial depth (e.g., relaxed collateral) benefit productive firms but can impose losses on less productive firms and firms with low credit demand.

No one-size-fits-all solution; prioritize country-specific diagnosis of binding constraints.
Foundational actions for governments:
- Develop appropriate legal, regulatory, and institutional frameworks and a supporting information environment.
- Introduce and enforce laws that protect property or creditor rights.
- Set standards for disclosure and transparency.
- Promote credit information-sharing systems and collateral registries.
- Educate and protect consumers.
Operational and targeted measures governments could consider:
- Grant exemptions from onerous documentation requirements.
- Allow correspondent banking arrangements.
- Shift to using electronic payments into bank accounts for government payments.
Expected outcomes of implementing these measures:
- Expanded firms’ access to finance, increased financial inclusion, reduced inequality, and boosted growth.

Framework being applied to additional countries; "over 20 country studies completed or in progress," including:
- Colombia, Costa Rica, El Salvador, Guatemala, Honduras, India, Nicaragua, Nigeria, Paraguay, Panama, Peru, Uruguay, the Economic Community of Central African States, the Democratic Republic of Congo, Nigeria, and Zambia.
Invitation to follow future research and case studies on financial inclusion.

Source: A Big Step Forward for Bolstering Financial Inclusion (January 28, 2015).