Every year, millions of people around the world transition out of poverty with the help of tools that enable them to build more stable economic lives. At the same time, similar numbers continue to remain trapped in a cycle of poverty. Similarly, millions of people are pushed back into poverty as they are unable to cope with economic pressures. A significant driver of this cycle is financial exclusion. In many such situations, the most important buffers against crippling setbacks are financial tools such as personal savings, credit, insurance, or cash transfers from family and friends.
Yet these are rarely available because most of the poor lack access to even basic banking services. Finance is the glue that holds all pieces of our life together and therefore enables money to be in the right place, for the right situation, at the right time, so that people can build and lead stable lives. It is the role of finance at the most basic level and starts with having an account at any bank or through a mobile money service provider. At a more advanced level, people need to borrow money at an affordable cost to meet various needs. To execute these daily economic activities, people require sound financial advice to understand the mechanics of these affairs.
They need tools to protect them from shocks like disease, disability, and death. This mechanism of making available financial tools to people ~ tools that can help them save, store and retrieve money in a hassle-free manner is known as financial inclusion. Financial inclusion is the process of ensuring that individuals, especially low-income households, have access to essential financial services in the formal financial sector India has witnessed profound changes in its financial inclusion ecosystem in the recent past. The country has been one of the early innovators in financial inclusion – creating and supporting financial products and services designed for low-income communities.
The then RBI Governor, Y.V. Reddy, coined the term in 2005. The original phrase of RBI was “financial exclusion”, but Reddy had changed it from “exclusion” to “inclusion,”; therefore it has stuck because of the greater resonance of the fundamental shift in approach found in all sections. India’s flagship financial inclusion programme, Pradhan Mantri Jan Dhan Yojana (PMJDY) ~ launched in 2015 to provide a basic account to every adult ~ has significantly changed the demographics. The main problem is not that the poor have very little to save but they are not profitable customers, so financial service providers do not want to reach them.
As a result, poor people usually struggle to stitch together a patchwork of informal, often precarious arrangements to manage their financial lives. These choices are expensive, insufficient, risky, and unpredictable. With improved financial access, families can smooth out consumption and increase investment, including on education, housing, and health. Tapping into appropriate financial services can also appreciably improve livelihoods. People can also better navigate contingencies ~ and therefore avoid falling deeper into poverty, which is often the case with low-income communities.
Without inclusive financial systems, individuals and enterprises lose promising opportunities, have their potential for entrepreneurial activities constricted, and have their capital constrained to savings and earnings. Managing money is hard, and it’s harder when you live on an earning that makes you plan your life on a day-to-day basis. Financial inclusion is slowly emerging as a key driver of inclusive growth. Affordable and appropriate access to financial services is increasingly being recognised as essential to economic growth, poverty alleviation and prosperity.
When poor people are made part of mainstream financial systems, they can enjoy access to goal-based savings leading to investments, avail credit, buy assets, and insurance to protect them financially. At a macro-level, greater financial inclusion can support sustainable and inclusive socioeconomic growth for all. Access to basic financial services enables the more vulnerable in society to step out of the vicious cycle of poverty and empower themselves. Exclusion from the formal financial system keeps millions trapped in poverty.
Without formal financial histories, people are also cut off from potentially stabilizing and uplifting opportunities. And it’s harder to weather common financial setbacks, such as serious illness, a poor harvest, or an economic downturn. All too often, financial exclusion makes the expenses of poverty difficult to overcome. Financial inclusion is the bridge between economic opportunity and outcome. Access to financial services opens doors for families, allowing them to smooth out consumption and invest in their futures through education and health. Access to credit enables businesses to expand, creating jobs and reducing inequality.
Increasing access to high-quality, affordable financial services will accelerate wellbeing of households, communities, and economies in the developing world. Financial inclusion allows people to make everyday financial transactions more efficiently and safely. The use of the formal financial system also expands their investment and financial risk-management options. Several barriers hinder the access of low-income people to financial services. The demandside barriers are: not having enough money to make an account or transaction worthwhile, restrictive gender norms, low tech literacy, and low awareness of options.
Similarly, there are supply-side barriers: inadequate service point infrastructure, inconsistent technical infrastructure, unintuitive user experience, and unsuitable products for the poor. When more people have access to affordable and highquality financial services, they have more opportunities to thrive. This is especially true for women, who are excluded from financial systems often. They can capture opportunities and build resilience to advance their lives. When women can fully participate in the economy, they become engines of opportunity for their communities.
When farmers are given appropriate financial products and weatherbased index insurance, they can choose the types of crops they produce, increasing production. Financial inclusion carries benefits even beyond improvements in individual lives. By moving away from cash and using digital payments to distribute government wages and social benefits, governments cut costs and reduce leakages. Financial inclusion of women can create gender equality by giving women the opportunity to invest in businesses and use proceeds to invest in their households.
It becomes apparent in the choices that families make for their children’s education when they can save or receive remittances from family members living abroad. Financial inclusion improves health by giving people the ability to manage medical expenses and rebound from a health crisis. In developing countries, outof-pocket payments on health care are the main reason why people remain in poverty. In the absence of an efficient public health care system, the burden of medical costs rests on the poor themselves. Health shocks not only drain their resources for paying for medical treatment, but they also result in income loss because of the patient’s inability to work or the depletion of their assets to confront health costs.
Financial services like medical insurance can provide a formal channel for mitigating the risks of health emergencies. Digital platforms offer the opportunity to rapidly scale up access to financial services using mobile phones, retail points of sales, and other broadly available access points when supported by an appropriate financial consumer protection framework. There’s growing evidence that digitising payments ~ for education, health, or other social safety nets ~ yields big benefits for individuals.
In addition, it improves efficiency for governments by dramatically reducing costs, increasing transparency, and helping recipients build familiarity with digital payments. It allows people to transfer funds and to pay bills from their home, or in a market or store setting, with limited physical contact The coronavirus crisis has highlighted the benefits of digital financial services and its critical role in achieving Sustainable Development Goals. During the pandemic, fintech helped governments quickly and securely reach people with cash transfers and other forms of financial assistance and reach businesses with emergency liquidity.
However, we will be missing the mark if we believe that financial inclusion will by itself eliminate poverty. No one can deny that having access to financial services is sometimes important for the poor, and we should certainly help the process. However, this is not the same as arguing that financial inclusion should replace/displace other development community programmes using the same funding and targeted at the same poor communities, such as in healthcare, education, or infrastructure. Financial inclusion alone will not eliminate poverty regardless of how well it functions.
To have a truly transformative impact, financial inclusion must be supported by government-led efforts to improve access to education, health, training, and employment. Financial literacy, access to financial tools, and economic empowerment underpin the development of healthy and stable communities. But it needs to be complemented with a host of other services. Financial services alone cannot vault the poor out of poverty. They can enable economic enfranchisement but cannot solve social exclusion, which has to be addressed by tackling a combination of problems. The issues include unemployment, discrimination, poor skills, low incomes, and poor housing.
We need to remind ourselves of the memorable poser of Dudley Seers, first president of the prestigious European Association of Development Institutes (EADI), on development: “The questions to ask about a country’s development are: What has been happening to poverty? What has been happening to unemployment? What has been happening to inequality?” Governments must enact complementary policies if they hope to reduce exclusion for society’s most vulnerable.
Laws promoting reproductive health, reducing opportunity gaps between urban and rural areas and fostering gender equity will give financial inclusion efforts more bang for the buck. Credit is a powerful tool if it is used effectively and when it is made available to the credit-worthy among the economically active poor – people with the ability to use loans and the willingness to repay them. But it has to be bundled with other services (such as training) to maximise impact on livelihoods. Financial inclusion is a means to an end or many ends not an end in itself.
(The writer is the author of Village Diary of a Heretic Banker. He can be reached at [email protected])