NextBillion - An Initiative of the William Davidson Institute at the University of Michigan

As we approach the World Bank Annual Meetings this year in Washington, DC, one topic world leaders will discuss is how to reach universal financial access by 2020. But there is a resounding dissonance between enthusiasm for one of the most-touted solutions to financial exclusion and the evidence to date.

We’re talking about the fervor with which shifting government welfare payments to electronic form (government-to-person or G2P payments) is put forward as a quick route toward universal access. The evidence we’ve seen suggests that while moving G2P to electronic form has important benefits, clients are not yet benefitting from meaningful increases in financial inclusion.

The argument in favor of G2P electronic payments for financial inclusion is simple. Many governments offer cash transfers to millions of people at or below the poverty line, most of whom are not connected to the formal financial system. If these cash transfers are funneled into bank accounts rather than paid directly out in cash, these people immediately gain an on-ramp to financial services.

But the evidence shows that this solution is not working for financial inclusion. The financial inclusion community has been whispering this truth for years.

When G2P recipients receive payment through a bank account, they consistently continue to withdraw the funds in cash. While the recipients may now be officially counted as “included” because they have bank accounts, meaningful inclusion would involve active use of the account, retention of savings in the account, or use of other products offered by the financial institution. However, we observe that no one involved in these transactions – not governments, banks, or clients – sees financial inclusion as an integral part of this process or even as a relevant goal.

The Center for Financial Inclusion commissioned our CFI Fellow, Guy Stuart, CEO of Microfinance Opportunities, to study G2P programs from a client perspective in Pakistan and Colombia. In his report, “Government-to-Person Transfers: On Ramp to Financial Inclusion?” Stuart found that not only do people withdraw all funds as soon as they can, they do not necessarily perceive the digital channel as more convenient. Recipients continue to report long lines and technical problems. The financial institutions do not actively provide other services to these customers. Banks are attracted to these programs not because they see the customers as an attractive market segment (for the most part, they don’t), but because they receive a small subsidy from the government and the prestige of winning a large scale government procurement.

The government administrators of cash transfer programs, for their part, are focused on reducing administrative costs and leakage due to fraud along the way. Shifting to electronic channels has been effective for those purposes. However, welfare program administrators typically do not share an interest in financial inclusion, and may even believe that all funds should be withdrawn immediately, since their purpose is to support consumption. Stuart concludes that while the cash paid out through welfare programs does better peoples’ lives, the benefits to clients do not depend on which payment channels are used.

And Stuart is not the only skeptic. Experts on the topic from multilaterals, research institutions and financial services providers—the ones doing the research on such programs—agree that G2P electronic payments do not in their current form deliver on their financial inclusion promises.

Stuart’s research also points to the still formidable challenges to make G2P systems work smoothly and provide the right incentives for providers. Providers report that the profit margins on G2P electronic payments are impossibly small, such that few institutional resources can justifiably be spent on leveraging the payments for further inclusion. The procurement processes often used for G2P electronic payments also should be revisited. Often, the entire contract is offered to one institution for a few years, then awarded to a lower bidder during the next cycle. Currently, the process discourages innovation and the kind of competition that might improve service for recipients.

Within financial institutions, changes would be needed to respond to recipients as real customers. Without having to spend funds on customer acquisition, financial institutions could capitalize on how to most effectively engage recipients of G2P payments. Often, however, G2P payment accounts are managed by a separate department from other products. This product separation discourages a long-term customer relationship view.

Finally, recipients will always cash out if they cannot use their funds in electronic form. If the merchant acceptance environment developed such that recipients could use a card linked to their account to buy things they need, then they might be more likely to leave funds in their account for future use.

Is G2P a silver bullet for financial access? No, and of course silver bullets are very rare. We know that cash transfers matter to the poor; we know that paying them electronically reduces administrative costs and leakage. Now we need to work on improving incentives for both providers and recipients to take the next steps to move G2P payments toward more useful customer-bank relationships, and more meaningful financial inclusion.

Elisabeth Rhyne is the managing director and Sonja E. Kelly is the director of research at the Center for Financial Inclusion at Accion.

Photo above courtesy of Accion. Homepage photo courtesy of the Center for Financial Inclusion at Accion on Facebook.