Experimenting with Value Add that Integrates Informal Mechanisms
Defaults to formal institutions are only one side of the Rubik’s Cube of over-indebtedness and personal financial management. Far more of the financial flows of people at the base of the pyramid (BoP) are happening through informal mechanisms. It’s hard for any outsider to judge overall indebtedness without a way to see a balance sheet that accurately reflects assets and liabilities, including informal savings and lending, and the social capital and obligations upon which life runs.
Fintechs need to experiment with facilitating existing mental models and adding value to informal behaviors like local merchant’s shop credit, family P2P lending, community saving for weddings or funerals, ROSCAs, VSLAs, savings collectors/money guards, or agricultural middlemen. With these informal instruments combined with the income side from efforts to digitize payments through manufacturing supply chains or agribusiness value chains, there comes the possibility to see the comprehensive, complex financial trade offs that an impoverished individual juggles in her head every hour.
Diverse DFS could find novel, more valuable ways to intermediate informal cash flows. With more of these solutions digitizing daily transactions we gain financial diaries-type insights en masse, seeing indebtedness more clearly than credit bureaus. This information is based on immediate customer circumstances and can provide a more detailed reflection of current financial needs to customers, so they can optimize their own financial health. The same information can be used to create tailored solutions that meet individual needs or supportive behavioral nudges.
With this diversification of offerings providers present a greater value proposition and support previously invisible informal activities, and people will find resulting services too valuable to miss repayments.
Navigating a Market Learning Curve
Going through a process of market forces to design and price useful DFS solutions that the market will bear and business model experimentation will take iterations much like AI credit scoring algorithms. Reports on defaults don’t need to be seen merely as bad news, but also as feedback loops growing collective intelligence about what tools the bottom of the pyramid prioritize and which are yielding gains that outweigh their costs.
Because all this diversification to create greater value propositions and digitize informal transactions requires experimentation for everyone, credit bureaus should institute safety nets to prevent poor people from bearing the burden of a market’s collective learning curve.
One way to reduce the burden of adverse credit reporting is to make exempt from default reporting small-amount loans, first-time loans, or — as Ignacio Mas has suggested to me in a personal correspondence — high APR loans. Another option would be that after a country goes through the digital finance learning curve and the market has matured, the credit bureaus could hit a one-time reset that universally wipes the slate clean for defaulters. Such moves would not be about rewarding irresponsibility, as much as acknowledging we all collectively paid for the market data gathering process to figure out reasonable pricing for a diverse basket of DFS tools.
More than a decade after the launch of M-Pesa, most markets’ learning curves have barely begun. Only a handful of countries offer multiple mobile credit, savings, and insurance products. Not yet scratching the surface of addressing people’s daily dilemmas, slowing down threatens to prolong the disappointment of failing to discover what really tailors to BoP cash flow needs. Instead we need to push beyond cookie-cutter digital credit to more and faster iterations of DFS diversification that should also boost current mobile money 90-day active usage rates of only 34.5 percent.
While continuing to improve consumer protection practices promoted by efforts such as the Responsible Finance Forum, the Smart Campaign, GSMA’s Code of Conduct, or CGAP’s Consumer Protection in Digital Credit, let’s protect clients from the harms they’re enduring without financial intermediation by driving toward delivering greater value. This can help customers see repayment in formal finance as essential so that digital integration of informal transactions better avoids over-indebtedness.
How can your institution contribute to the experiments it will take for your market to learn how to deepen DFS value propositions to solve for BoP cash flow volatility and practical problems?
For more ideas, links to research, and other intertwined issues, read part two on LinkedIn.