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

Financial inclusion has a growing prominence on the global development agenda, with over 50 national-level policy-making and regulatory bodies publicly committing to financial inclusion strategies for their countries, according to the World Bank. There’s a strong consensus that access to suitable financial services can help poor households improve their lives while spurring economic activity.

But what is the evidence for these positive impacts? CGAP tackled that topic in a recent Focus Note, which approaches the question from three angles:

• How financial inclusion can help poor households living and working in the informal economy
• The impact it has at the microeconomic, local economy, and macroeconomic levels, and
• How inclusive, low-cost financial systems can generate additional, indirect benefits for both the public and private sector

We spoke with Nina Holle, an associate microfinance analyst at CGAP, and a co-author of the Focus Note. She discusses the report’s findings below:

James Militzer: What motivated you and your fellow researchers (and CGAP) to put together this report?

Nina Holle: In the last years, global and national-level policy makers have been embracing financial inclusion as an important development priority. At the same time, we have seen an increasing interest by donors and policymakers in measuring the impact of financial inclusion as a development tool and the subsequent rise of impact evaluations for accountability purposes. In general, research on impact and benefits of microfinance has evolved substantially over the course of the last 10 years. As a result, there now is a growing body of evidence showing how access to finance affects the live of the poor – using a broad range of methodologies.

So we felt that it was a good time to take a step back to look at the overall evidence base on the impact of financial inclusion efforts. We wanted to have a holistic picture of how financial inclusion makes a difference in the lives of the poor. This is why we looked at studies and research on both the micro-level and the macro-economic level of impact: we included studies focused on measuring the direct impacts on the household level, looking at factors measuring welfare such as income, health or education. But we also included research on the effects of financial inclusion efforts on the broader economy, looking at how broader factors like economic growth or general job creation can benefit the poor.

We hope that by providing a practical overview and summary of the most relevant impact studies, this report helps financial inclusion stakeholders to make sense of the broad – and sometimes difficult to interpret – evidence base in a succinct way.

JM: What do you consider to be the report’s most significant findings?

NH: The cumulative evidence base shows that broad financial inclusion efforts indeed help the poor improve their lives. We found that by looking at the overall body of research on this topic, a more nuanced picture is emerging, with more and more studies indicating that the poor benefit from access to formal financial services.

(Left: Nina Holle)

Findings from the latest randomized control trials (RCTs) indicate that formal financial services, such as microcredit, savings, insurance and mobile payments, can have a positive impact on a variety of indicators, including self-employment business activities, household consumption and well-being. While the public debate has mainly focused on the impact of microcredit, we felt that it was important to look at the evidence of the whole range of financial services including savings, insurance and mobile payments. We know from the financial diary literature that the poor have complex financial lives and therefore need and use the full range of financial services – not only credit. So we can only understand the role and impact of financial inclusion if we look at the broad range of financial tools.

Another important finding that emerged from the report was that benefits are not just limited to the microeconomic level: broader financial inclusion is also correlated to more economic growth, lower inequality and increased stability at the macroeconomic level. These effects are more indirect but equally important in improving the lives of the poor.

The findings demonstrate that if you take a wider perspective, the evidence shows that the impact of financial inclusion seems to be on the whole more positive than the recent debate may have suggested.

JM: Can you briefly summarize what the report found about the impact of the different financial tools studied (credit, savings, insurance, payments and mobile money)?

NH: Studies on savings show the most consistent positive impact of all the different financial services we looked at. Savings help households manage cash flow spikes, smooth consumption, as well as build working capital. Overall, there is strong evidence showing that access to formal savings options can boost household welfare.

The studies we examined in our report show that small businesses benefit from access to credit by helping owners invest in assets and grow their enterprises. However, the impact of credit on a household’s broader welfare is less clear, depending on context.

Research suggests that insurance helps poor households mitigate risk and manage shocks. However, demand and uptake of insurance — even when offered for free — is strikingly low. There definitely needs to be more research to understand the underlying mechanisms and to improve insurance products so that they get attractive for customers.

The evidence for new types of payment services is still emerging. However, it seems that mobile money benefits the lives of the poor in two ways: firstly, mobile money can reduce transaction costs. For example, money transfers and social cash transfers are cheaper via mobile. Secondly, it improves households’ ability to manage shocks by helping people to better cope with shocks by sharing risk. For example, in the case of a natural disaster, friends and family can send money easily via mobile – even from afar.

JM: You mentioned that the impact of savings is the most consistently positive. Do you think savings is getting the emphasis it deserves from financial inclusion/development professionals, when compared to microcredit, for instance? If not, why not?

NH: The vast majority of poor households lives and works in the informal economy: not by choice, but by necessity. In economic terms, they are producers and consumers at the same time. As such, they need access to the full range of financial services to navigate their complex financial lives. Savings is an important element in the equation.

We have seen a significant shift of attention from microcredit to savings in the last years. This was triggered especially by an increased understanding of professionals in this field that credit alone is not the solution and that an overemphasis on credit can even be dangerous. However, much more can and must be done to provide appropriate savings and other financial services to the poor. It all comes back to understanding the real needs and preferences of customers – and providing suitable and affordable services based on that understanding.

JM: About microcredit, does the report do anything to resolve disagreements over its effectiveness as a poverty alleviation tool – and does it point toward any new approaches to offering microcredit that could make it more effective?

NH: One of our main takeaways from the research is that the picture of impact of microcredit is at the same time much more nuanced and also more positive than we thought. This is the case, even if we only look at the results of the RCTs which were often referenced in the past mainly as proof that microcredit doesn’t work.

However, as a next step we have to better understand for which clients and in which contexts microcredit works – and under which circumstanes it doesn’t. More research is needed – especially using mixed methodologies – to really understanding why and how some people are benefitting, while others are not.

JM: Describe some of the indirect/macroeconomic benefits of financial inclusion mentioned in the report.

NH: At the macroeconomic level, we see a positive correlation between the depth of a financial sector and three indicators: growth, inequality and financial stability. A more developed financial sector means more economic growth, less inequality and – under certain circumstances – more financial stability, which disproportionately benefits the poor. However, it is important to understand that there are nuances. For instance, research indicates that the positive growth impact does not hold in economies with weak institutional frameworks or in extremely high-inflation environments, which is relevant for a lot of country contexts.

In our report, we touch upon the main drivers and exceptions for these correlations. Maybe the role that macroeconomic factors play in improving the lives of the poor was not emphasized as much in the more recent years. However, as we see from the macro-level evidence, advancing financial inclusion can also have more indirect benefits – and we have to keep that in mind when talking about the impact of financial inclusion.

JM: Do you feel the report helps correct any misperceptions that exist about financial inclusion or specific tools used to advance it?

NH: Yes. Hopefully, the report will help to clarify that impact is neither limited to microcredit nor to direct effects on the household level. Taking this broader view seems to answer the question of whether and how financial inclusion can improve the lives of the poor and will also help us to sharpen future research in this area.

James Militzer is the editor of NextBillion Financial Innovation.