The term “rural brain drain” was popularized nearly a decade ago when two sociologists published a book documenting <a href="https://www.wired.com/2010/02/how-do-we-stop-hollowing-out-the-middle-of-america/">their experience living in Iowa</a>. Their goal was to understand the exodus of a young, educated workforce from rural areas to urban hubs. Today there are many factors contributing to this population shift, among them deindustrialization, lack of high-paying jobs, and weak broadband connectivity. A <a href="https://www.federalreserve.gov/publications/files/consumer-community-context-201901.pdf?mod=article_inline">Federal Reserve</a> report published earlier this year brought to light another reason for this phenomenon that dozens of states are grappling with: student loan debt.

The student debt crisis made headlines in 2010 when student loan debt surpassed credit card debt in the United States, at a staggering $1.56 trillion today, student debt is growing much faster than <a href="https://www.finder.com/student-loans-to-overtake-mortgages">mortgage debt</a> (10.4 percent per year versus 0.6 percent for mortgages). According to the Federal Reserve Bank of New York, nearly two-thirds of this financial burden falls on Americans under the age of 39.

As young people are increasingly burdened by student debt, they are flocking to the places that offer high-paying jobs: cities. According to Pew Research, <a href="https://www.pewresearch.org/fact-tank/2018/03/16/how-millennials-compare-with-their-grandparents/">88 percent</a> of millennials live in metropolitan areas. The average age is higher in <a href="https://www.citylab.com/life/2018/05/mapping-americas-aging-population/561200/">the Midwest and the Appalachians</a>, regions that are struggling to keep pace with urban hubs in terms of broadband access, variety of jobs, quality of higher education institutions, and other success factors in today’s markets. As evidenced by the Fed’s report, individuals with student debt are less likely to remain in rural areas than those without debt. Furthermore, nearly two-thirds of the students most burdened by debt leave rural areas within one year after entering repayment. The term for this migration pattern has been coined the “rural brain drain,” and its impacts on the economic vitality of these regions are increasingly apparent. The inability of rural areas to attract a young, educated workforce is deepening the rural-urban divide.
<blockquote>Young people are flocking to the places that offer high-paying jobs: cities.</blockquote>
Some may argue that widespread access to education loans has created better opportunities for younger populations all over. However, according to U.S. Census data, wages have been stagnant since the 1970s, while the average cost of public college tuition has increased almost four fold. Simultaneously, homeownership among those under 35 has dropped <a href="https://www.census.gov/library/stories/2018/08/homeownership-by-age.html">10 percent</a> since 2006, and birth rates have declined every year since 2007. People in the age groups we might expect to be buying homes, settling down, and raising the next generation cannot afford to do so.
<blockquote>Wages have been stagnant since the 1970s, while the average cost of public college tuition has increased almost four fold.</blockquote>
We often look to countries like Finland, Denmark, and Norway, which offer tuition-free college to their citizens, as paradigms of what could exist here at home. Which country has the best model for us to try to replicate? According to former Secretary of Labor Robert Reich, the answer is <a href="http://inequalityforall.com/wp-content/uploads/2014/12/A_Visual_StoryPDF.pdf">the United States</a>. In post-war America, tuition fees were waved for veterans, and there was a massive proliferation of public universities. The GI Bill was one of the important factors that led to a tripling of the number of Americans with a bachelor’s degree from 1950 to 1977, and these educated workers helped the U.S. to grow to have the largest and most prosperous middle class in the world. At this time, public tuition was about 6 percent of an average male salary, compared to today’s 25 percent.

Times have changed, however, and modern problems require modern solutions. Refinancing and forbearance can provide some relief, but they ultimately increase debt in the form of interest. Other <a href="https://www.forbes.com/sites/andrewjosuweit/2017/11/05/6-ways-congress-can-help-ease-the-student-loan-crisis/#1cdcbb656cf6">proposals</a> to remedy the student debt crisis include erasing all debts, boosting the tax deduction for those making on-time payments, expanding the Pell grant program, creating a tiered system that lowers or eliminates debt based on income, and proper adherence to the <a href="https://www.nerdwallet.com/blog/loans/student-loans/public-service-loan-forgiveness/">Public Service Loan Forgiveness Program</a>. The latter program was created in 2007 to forgive remaining student loan balances of those who have worked for 10 years in public service. In 2017 applicants first became eligible for relief through this program, which has a two-year budget of $700 million. However, as of April this year, only 1.5 percent of those funds have been utilized. While the <a href="https://studentaid.ed.gov/sa/repay-loans/forgiveness-cancellation/public-service/temporary-expanded-public-service-loan-forgiveness#how-qualify">requirements</a> for forgiveness are publicly available, the Department of Education has come under fire for not providing clear guidance to successfully navigate them.

Some believe that a policy to eliminate all or most student debt would be a major <a href="https://www.marketwatch.com/story/canceling-14-trillion-in-student-debt-could-have-major-benefits-for-the-economy-2018-02-07">economic stimulus</a>, spurring job creation and narrowing the wealth gap over the next decade. Our recent history proves that a well-educated population fuels a virtuous cycle of growth through competitive wages, increased tax revenues, and expansion of jobs. An affordable education lies at the foundation of this cycle, and will be a key factor in creating a more economically inclusive rural and urban America.

Rural America: Another Casualty of Student Loan Debt?

North America

United States

Consumer Protection

Over-indebtedness

Blog Post

Discussions about digital credit default rates have critiqued the "how" it gets delivered, but an alternative view is to blame "what" is being offered and conclude that more diverse and useful DFS are needed sooner. The digital credit so far in the form of the uniform, very small amount nanoloans aren’t delivering a strong enough value proposition in meeting specific needs to rank them high in a person’s order of expenses to cover and debts to repay.

How do we know that improving value propositions of DFS hold promise as a solution to defaults? Looking to two markets whose mobile money ecosystems have had more time to develop credit products can provide clues.

In this post, I'll compare digital credit in Kenya and Tanzania. CGAP’s research reveals <a href="https://www.cgap.org/sites/default/files/publications/Working-Paper-A-Digital-Credit-Revolution-Oct-2018.pdf">Tanzania’s default rate is 31 percent, almost 3 times higher than Kenya’s</a>. Why do these neighbors have such drastically different default rates? Apart from other <a href="https://fsdkenya.org/blog/four-differences-and-five-similarities-of-digital-credit-markets-in-kenya-and-tanzania/">distinctions</a>, two differences embedded in the research are:
<ul>
 	<li>Kenya has diversified the range and number of products on the market.</li>
 	<li>Tanzanians consistently preferred to use informal sources rather than digital credit.</li>
</ul>
Compare the data from the graphs below, from "<a href="https://www.cgap.org/sites/default/files/publications/Working-Paper-A-Digital-Credit-Revolution-Oct-2018.pdf">A Digital Credit Revolution: Insights from Borrowers in Kenya and Tanzania</a>," a CGAP/FSD working paper published October 2018.

Diversifying Digital Financial Services: A Way to Tackle Defaults and Over-Indebtedness

Kenya

Sub-Saharan Africa

Tanzania

Credit

Delivery Channels

Digital Financial Services

Informal Credit

Nano Loans

India is one of the fastest growing and complex markets for inclusive finance, where there is a huge opportunity to extend financial services to the underserved. Yet the country has struggled in the past with unbridled growth of the microfinance sector leading to a crisis in debt stress, notably in <a href="https://www.huffingtonpost.com/elisabeth-rhyne/on-microfinance-whos-to-b_b_777911.html">Andhra Pradesh</a> in 2010.

Policymakers and networks of microfinance institutions actively responded to these crises and elevated consumer protection on the policy agenda. But it’s one thing for regulators to signal policy support for consumer protection. It’s quite another to tackle the nuts and bolts of implementing best practices, especially in such a complex market as India.

[caption id="attachment_33139" align="alignleft" width="500"]<img class="wp-image-33139" src="https://content.centerforfinancialinclusion.org/wp-content/uploads/sites/2/2018/10/Sa-Dhan-tool-launch-photo-1024x714.jpg" alt="announcement-of-sadhan-monitoring-tool-group-photo" width="500" height="349" /> The Sa-Dhan monitoring tool was announced at a launch event during the Sa-Dhan Annual Conference in New Delhi in September 2018.[/caption]

One of the scalable solutions to arise in India is the concept of microfinance networks as Self-Regulatory Organizations (SROs). Networks that have been designated by the Reserve Bank of India (RBI) as SRO networks are responsible for monitoring compliance of member MFIs to the microfinance industry code of conduct and providing an effective grievance redressal mechanism between borrowers and member institutions. <a href="http://www.sa-dhan.net/">Sa-Dhan</a>, the largest organization of community banks in India, was designated an SRO in 2015. While Sa-Dhan had previously filled a quasi-regulatory role, this official designation expanded its mandate for monitoring and enforcement, in turn expanding its need for tools to identify and respond to risks at both the market and institution levels.

Aiming to make a country-wide impact on the state of consumer protection in India, CFI’s <a href="https://www.smartcampaign.org/">Smart Campaign</a> and Accion’s Global Advisory Services collaborated with Sa-Dhan to build a digital monitoring tool based on the Smart Campaign’s <a href="https://www.smartcampaign.org/about/smart-microfinance-and-the-client-protection-principles">global standards for financial consumer protection</a> and local regulatory guidelines. The tool is to be the vehicle through which Sa-Dhan collects the information it needs from its members to fulfill its supervisory role in monitoring compliance with the code of conduct. Accion’s advisory team led the digitization of the tool, building of the data warehouse, and the corresponding web platform. The tool was officially launched at Sa-Dhan’s annual conference with technical and financial support from the International Finance Corporation. Sa-Dhan’s members can now efficiently self-report data through the tool’s online interface and Sa-Dhan can quantitatively assess market dynamics, especially areas of over-indebtedness risk.
<blockquote>The tool is to be the vehicle through which Sa-Dhan collects the information it needs from its members to fulfill its supervisory role in monitoring compliance with the code of conduct.</blockquote>
This new monitoring mechanism will help to instill consumer protection in Sa-Dhan’s nearly 200 member MFIs and protect more than 30 million clients in India.

Across the microfinance sector new examples of “regtech” and “suptech” are emerging. Just as technological transformation of MFIs can scale their services to new clients, technology can help regulatory bodies meet their broadened responsibilities to oversee the proliferation of lenders. P. Satish, Executive Director of Sa-Dhan sees the new tool as an essential component to meeting its SRO mandate through technology that will “help member MFIs with their data analytics and compliance measures, as well as reduce potential client distress.”

After the initial rollout and training workshops for MFIs across the country, Sa-Dhan will put the tool into practice and will use the reports in consultation with the RBI to identify “hot spots” of overindebtedness or lack of compliance to the code of conduct. These reports will also help Sa-Dhan identify under-penetrated areas and help lenders to expand services.

India’s experimentation with self-regulation holds lessons for the world. Traditionally, self-regulation models have been met with skepticism, especially regarding how non-government networks can monitor and enforce compliance among members. The collaboration between the RBI and SROs in India give weight to the microfinance networks through a layered regulatory approach, and technology advances can build capacity of networks like Sa-Dhan to access data from their members and oversee performance.

The Sa-Dhan monitoring tool can serve as a model for expanding consumer protection in other markets, especially those where there are concerns of rising debt stress. Better monitoring tools can serve as an early warning system and help provider networks or regulators head off crises before they spread.

A New Digital Monitoring Tool in India Could Boost Consumer Protection Capacity

The Smart Campaign

India

Client Treatment

As digital credit providers have grown exponentially over the past few years, and as digital products and models have proliferated, so too have concerns around consumer protection. In the recently published report, <a href="http://www.centerforfinancialinclusion.org/publications-a-resources/browse-publications/1036-responsible-digital-credit">Responsible Digital Credit</a>, I argue that ensuring that digital credit customers receive responsible treatment requires more than enhanced consumer protection laws and regulations. It also requires strong commitment from the digital credit industry. Finally, it needs consumers who are empowered to play a more proactive role in managing their digital credit responsibly.

Over the past year, I have interviewed digital credit industry associations, credit providers and their third-party data analytic providers, regulators, policy makers, and various consumer protection leaders. Many of these groups are working to develop responsible digital lending principles. With their input, my report proposes a guiding framework for responsible digital lending.  The framework uses the Smart Campaign <a href="https://www.smartcampaign.org/about/smart-microfinance-and-the-client-protection-principles">Client Protection Principles</a> as a basis for grouping the issues. In addition, I propose an eighth principle: security and fraud protection.

Digital credit, and especially the use of mobile phones, significantly alters interactions between borrowers and lenders. Lenders utilizing the mobile channel to advertise, acquire and transact with customers must pay particular attention to the limitations of mobile interaction with customers and follow industry <a href="http://onlinelendersalliance.org/wp-content/uploads/2016/03/Best-Practices-2016-1.pdf">mobile best practices</a>. While many of the standard consumer protection practices continue to apply, new concerns, or more accurately, new faces on older concerns, have emerged. In this post, I want to highlight several of the considerations I found most important and relevant for the digital lending industry.
<h2>Responsible Algorithms</h2>
Many digital credit models rely on algorithms to process data about clients and make credit decisions. Because most lenders consider their algorithms proprietary, it is difficult for observers to know on what basis credit decisions are actually made. This opaque situation raises the spectre of discrimination. Attributes that are considered inappropriate bases for differentiation, such as religion, language, gender, or ethnic origin, are areas of particular concern with regard to algorithm-based lending practices. As highlighted by a Smart Campaign <a href="http://www.centerforfinancialinclusion.org/publications-a-resources/browse-publications/916-smart-brief-tiny-loans-big-questions">report</a>, while credit offers may differ based on risk analysis, such differentiation should be consistently applied, stated in advance, and made with the goal of benefitting clients. To prevent discriminatory digital credit practices, some recommendations include:
<ul>
 	<li><a href="https://www.whitecase.com/publications/insight/algorithms-and-bias-what-lenders-need-know">Pretest, test and retest for potential bias</a>. Digital credit providers and third-party data analytics providers should continuously monitor the outcomes of their algorithmic programs to identify potential problems. Such testing could involve running scenarios to identify unwanted outcomes and developing and building controls that prevent adverse outcomes.</li>
 	<li><a href="http://www.ijmo.org/papers/43-A10212.pdf">Document the rationale for algorithmic features</a>. Digital credit providers should be able to provide visualization and a decision tree for the factors their algorithms analyze, as well as the justification for relying on these factors. The rationale should address how borrower debt capacity is assessed, given the importance of this concept in traditional underwriting.</li>
 	<li>Independent review of companies' proposed data sets and/or algorithms.</li>
</ul>
A self-regulatory approach could be used to develop best practices guidelines for data inputs and the development of nondiscriminatory artificial intelligence systems, following the model that has been successful for the Payment Card Industry Security Standards Council.
<h2>Indebtedness Monitoring</h2>
Because digital lending is often based on non-traditional underwriting criteria, to prevent over-indebtedness among digital borrowers it may be relatively more important to monitor outcomes at the portfolio level. Some of the ways to do this include:
<ul>
 	<li>Avoidance of debt traps by ensuring that clients are not forced into automated repeat loans.</li>
 	<li><a href="http://www.responsiblebusinesslending.org/">Responsible credit reporting</a> – Better compliance with reporting strengthens markets and leads to better client protection practices.</li>
 	<li><a href="http://www.centerforfinancialinclusion.org/storage/documents/Smart_Brief_Tiny_Loans_Big_Questions_Final_092617.pdf">Monitoring digital credit provider’s portfolio quality</a> – Industry benchmarks for portfolio quality can help to advance the understanding of risks and avoid business models that rely for their success on high default rates.</li>
</ul>
<h2>Digital Transparency </h2>
Digital credit platforms allow for 24/7 communications with clients that, if harnessed properly, can assist them with immediate technical support, remind them about upcoming payments and even identify counselors or resources for clients in financial stress. However, when communication is totally digital, there are heightened concerns about ensuring that clients really know what they are signing up for. Disclosure must lead to client understanding. Borrower disclosure standards should address:
<ul>
 	<li>Standards for honest advertising and penalties for misleading marketing materials of credit products. Furthermore, providers should advertise the name of the financial regulator they report to in all advertising materials.</li>
 	<li>Readability and format – Disclosures need to be easy to comprehend, available in the customer’s local language, and provided in print and digital formats.</li>
 	<li>Comparative tools – Standard summary disclosure documents would allow borrowers to compare credit offers, both digital and traditional.</li>
 	<li>Adequate notice periods – Consumers should be notified in advance of changes to interest rates, fees or terms and conditions.</li>
</ul>
A somewhat different but related and relevant concern, often overlooked in this context, is the vulnerability of individual investors who put their money into pure peer-to-peer (P2P) lending platforms. Protections need to be extended to them as well, with a focus on ensuring that they receive the information they need to evaluate risks and that they have recourse channels when something goes amiss.
<h2>Data Privacy and Usage Standards</h2>
While many regulators and most industry groups agree that it is important to protect the confidentiality and security of customers’ information, data use and the level of disclosure about its use are challenging topics. In the <a href="http://ec.europa.eu/justice/data-protection/reform/index_en.htm">EU</a> and in countries such as <a href="https://www.pc.gov.au/inquiries/completed/data-access/thedraft">Australia</a>, regulators are enacting rules mandating that individuals be notified about the use of their personal data and allowed to opt out. Opt-out rules should be considered as a potential requirement for all digital credit providers, especially in markets where mobile push-marketing has become problematic.

Over the next several years it will be important for laws or regulations to be put in place to protect consumer data privacy and guide information sharing. The rules need to:
<ul>
 	<li>Provide for informed consent, such that customers explicitly permit electronic data collection prior to its collection and use, and are given the option to consent or not.</li>
 	<li>Require providers to have a clear data collection and handling policy which limits the amount of data collected as well as the timeframe it is stored.</li>
 	<li>Inform clients about their data trails and credit histories, including the ability to ensure accuracy and correct for any errors or discrepancies.</li>
 	<li>Give regulators the power to discipline providers who repeatedly allow personal data to be misused.</li>
</ul>
<h2>Fraud Prevention and Security </h2>
New security vulnerabilities arising from digital credit strongly point to fraud and cyber-security as consumer protection concerns. It is increasingly urgent for digital credit providers to adopt standard security compliance measures and then to regularly test and update them. Providers must also be responsible for ensuring that the third-parties they use, including lead generators, brokers, agents, and data analytics providers, also have adequate security in place. Ultimately, providers need to be responsible for the actions of their third-parties (e.g., agents, contractors, lead generators, brokers and collectors).

Consumers should be made aware of the potential for fraud and encouraged to report suspected fraud cases or security breaches. Consumer awareness campaigns on the most common incidents of fraud (via the internet, SMS alerts, signage at agent kiosks, etc.) can help with this.

While the recommendations just listed do not apply in all markets, they do point to the urgent need for regulators, industry bodies, individual providers and consumers to work together to construct the ground rules for responsible digital credit that will ensure that consumers are adequately protected.

Editor's Note: This research was made possible by support from Mastercard Foundation and other partners.

&nbsp;

A Framework for Responsible Digital Credit

CFI Research Fellows Program

Digital Credit

Financial Technology

Fraud

Mobile Banking

Policy, Regulation and Government Initiatives

Privacy

Responsible Digital Finance

Transparency

<span style="float: none;background-color: transparent;color: #333333;cursor: text;font-family: Georgia,'Times New Roman','Bitstream Charter',Times,serif;font-size: 16px;font-style: normal;font-variant: normal;font-weight: 400;letter-spacing: normal;text-align: left;text-decoration: none;text-indent: 0px">Despite the rise in mobile money in Africa, and globally, the gap between supply and demand for credit in the region remains. Surprisingly, in this milieu, start-ups are at risk of accelerating the pace of over-indebtedness in Africa. The number of start-ups reaching last mile clients is rising. The driver of this is fintechs taking advantage of a business opportunity, and the prospect that if you offer clients much-needed credit at a lower cost than the alternative, they will be better off.

But is this necessarily true? Are these start-ups offering solutions to the credit needs that many small and medium African businesses have, and are clients better off with these solutions? Or is the fintech digital credit hype attracting lenders that offer credit in the wrong places – and for the wrong reasons? What is needed to ensure that digital credit is provided responsibly, for the benefit of clients?
<h4>Start-ups are at risk of accelerating over-indebtedness by supplying credit to clients without conducting appropriate repayment capacity analysis.</h4>
Some estimate that digital technologies have cut the cost of providing financial services by 80-90 percent (<a href="http://appgfintech.org.uk/wp-content/uploads/2016/11/MG-Digital-Finance-For-All-Full-report-September-2016.pdf">McKinsey Global Institute, 2016, PDF</a>). Africa is taking the lead in the rise of mobile technology, and the opportunities are promising. Start-ups in this space are making big strides. Those involved in digital credit either deliver digital credit directly or enable its delivery through downstream product servicing. The number of fintechs – startups offering these services – in Africa is growing daily (<a href="http://fintechranking.com/2016/12/15/63-companies-shaping-africas-fintech-ecosystem/">Mesropyan, 2016</a>).

Technology well used offers opportunities not previously available. However, two key issues need to be recognized and addressed in order to generate long-term benefits for both clients and providers.
<ol>
 	<li>Provider and client interests must be aligned. If providers profit while clients are experiencing stress in repaying, defaults will catch up with the client or the institution, and the client will no longer be able to borrow. Aligning interests requires providers to think of client benefits as well as their own, from the start.</li>
 	<li>A well-designed loan should match the ability to repay. Well-designed loans are a blessing, for example, helping a small business; yet loans that do not consider clients’ capacity to repay sets them up for failure. Even if they repay in the short term – which is often why default rates stay low – it can be at the cost of extreme hardship, making it a poor predictor of over-indebtedness. It may take some time before the debt stress of clients affects providers.</li>
</ol>
<h3>"Instant": an Opportunity and a Risk for Consumers</h3>
A key attribute digital lenders advertise is speed of access. Where traditional loans could take weeks for approval, with many requirements, this is a plus from the perspective of clients. But the automation and speed raises concerns: are decisions made too quickly, and are risks adequately measured and mitigated, especially from the clients' perspective?

Other aspects of digital credit lead to <a href="http://www.centerforfinancialinclusion.org/publications-a-resources/browse-publications/916-smart-brief-tiny-loans-big-questions">new risks</a> compared with analog lending: start-to-finish digitization; the move from high to low touch processes; small credit amounts that grow; short-term loans; reliance on alternative data analytics; and decentralized support workforces.
<h3>What Could Go Wrong?</h3>
With analog credit, prevention of over-indebtedness centered on adequate repayment capacity, and on growth not taking place at the expense of quality.

In the digital context, the following major categories of risk have been identified (Center for Financial Inclusion, 2017/2018. See References):
<ul>
 	<li>Limited – if any – debt capacity analysis</li>
 	<li>Products that do not match client needs</li>
 	<li>Lack of credit reporting</li>
 	<li>Automatic renewals</li>
 	<li>Aggressive sales and marketing</li>
 	<li>Disproportionate consequences of late payments that lead to a cycle of debt.</li>
</ul>
<h4>Algorithms are institution centric, not client centric. Over-indebtedness is not only reflected in default, it is first reflected by the extent of the sacrifices that the client endures to avoid defaulting.</h4>
Alternative credit scoring methods – often using elaborate algorithms that predict the probability of repayment – help to include people who have thin credit files and who would otherwise have been excluded. However, these models are a poor replacement for the repayment capacity analysis previously conducted by lenders serving vulnerable excluded populations. While the algorithm may predict whether or not an institution will be repaid, it does not consider clients' situations and needs, and therefore, the sacrifices that clients might have to make in order to repay. Over-indebtedness is not only reflected in default, it is first reflected by the extent of the sacrifices that the client endures to avoid defaulting. Algorithms are institution centric, not client centric. They are meant to learn over time, becoming refined and better predictors; yet they do so at the expense of early clients who enabled the algorithm to become better fine-tuned, as they have a higher probability of defaulting and suffer dire consequences (<a href="https://www.businessdailyafrica.com/economy/Pain-of-Kenyans-blacklisted-for-amounts-as-small-as-Sh100/3946234-3374120-r0r2bfz/index.html">Ngigi, 2016</a>).

The promise of well-tuned algorithms saving costs and managing institutional risk is unfortunately skewing attention away from client risks. Over-indebtedness needs to be reframed from a client perspective: can clients afford the loan? Even if they can repay, what sacrifices are they making? Are they at risk of not being a client ever again in the future (which would hurt both the client and the provider)?
<h3>Mitigating Over-Indebtedness in a Digital World</h3>
Over-indebtedness is a multi-stakeholder issue, and is linked to the client protection issues summarized in the <a href="https://www.smartcampaign.org/about/smart-microfinance-and-the-client-protection-principles">Client Protection Principles</a>. Prevention of over-indebtedness is a particularly tricky one, in that it requires the concerted effort of a wide range of stakeholders.

Providers have a responsibility to ensure that their practices do not lead to an oversupply of credit to clients who are unable to meet their payment obligations, and digital lenders will need to adopt a more client-centric approach to understand the risks of over-indebtedness from a client perspective. Algorithms need to evolve to take this into account.

Digital lenders need to understand the risks of over-indebtedness from a client perspective, and algorithms need to evolve to take this into account. Regulation also must guide good practice for fintech digital lenders.

Because only one irresponsible lender is needed in terms of over-indebtedness to negatively affect clients, it is necessary that financial consumer protection regulation evolves to guide the practices of otherwise unscrupulous digital lenders.

Investors can, and should, use their leverage to encourage good practices by digital lenders, as they have for analog lenders. They can reward digital lenders who design and deliver appropriate products, are transparent about terms and conditions, explain to clients the risks of over-indebtedness, adopt fair and responsible practices during repayments, and help clients who cannot, but want to, repay.

Importantly, digital providers can leverage the same technology used to deliver products to educate and empower clients. Clients have rights and responsibilities. Informed consumers are better able to protect themselves and avoid becoming victims of predatory lenders.
<h3>Over-Indebtedness Is Multidimensional and Dynamic</h3>
In the interest of long-term mutual benefits for both providers and clients, providers need to move away from a uni-dimensional definition of over-indebtedness that overly emphasizes repayment as the proxy for whether or not a client is indebted, towards <a href="http://www.centerforfinancialinclusion.org/publications-a-resources/browse-publications/201-over-indebtedness-of-microborrowers-in-ghana-an-empirical-study-from-a-customer-protection-perspective">client-focused definitions of over-indebtedness</a>.

Digital credit providers need to complement credit bureau data with disbursement and repayment data on digital loans so that a fuller financial picture can emerge for digital borrowers.

Over-indebtedness is not a steady state. As the lives of vulnerable clients evolve, so do their needs and challenges. A client who may have received a loan from a responsible lender in the past may suddenly not be in a position to repay. We need to develop ways to monitor whether clients are showing signs of financial stress. Responsible institutions should be able to identify this, and work with clients until it is resolved.

The role of responsible providers goes beyond providing loans to ensuring that clients are supported, if needed. <a href="https://www.microfinanceopportunities.org/">Microfinance Opportunities</a>, in collaboration with <a href="http://socialperformance.net/">Social Performance Solutions</a>, has been developing a stress assessment tool that enables providers to monitor whether borrowers are incurring stress after having received a loan. Such tools are extremely important to have a full picture of over-indebtedness, and a broader suite of tools needs to be available to responsible providers.
<h3>Fintech Protects Against Over-Indebtedness</h3>
Fintech digital credit providers need to unite and agree to collective measures to tackle the problem of over-indebtedness. This will entail defining responsible digital underwriting, leveraging technology, while learning from the past, expanding credit bureau reporting, and agreeing on common practices for the benefit of clients. Some fintechs are already taking the lead, and through the Smart Campaign’s <a href="http://www.smartcampaign.org/about/fintech-protects-community-of-practice">Fintech Protects Community of Practice</a>, they are working together to define and implement responsible practice. The body of evidence around risks is growing. Now is the time to define the guidelines of good practice for fintech digital lenders and identify solutions that work for clients.

References

McKinsey Global Institute, “<a href="http://appgfintech.org.uk/wp-content/uploads/2016/11/MG-Digital-Finance-For-All-Full-report-September-2016.pdf">Digital Finance for All: Powering Inclusive Growth in Emerging Economies</a>,” September 2016.

Elena Mesropyan, “<a href="http://fintechranking.com/2016/12/15/63-companies-shaping-africas-fintech-ecosystem/">63 Companies Shaping Africa’s FinTech Ecosystem</a>,” Fintech Ranking, December 2016.

Alexandra Rizzi, Isabelle Barrès, Elisabeth Rhyne, “<a href="http://www.centerforfinancialinclusion.org/publications-a-resources/browse-publications/916-smart-brief-tiny-loans-big-questions">Tiny Loans, Big Questions</a>,” Center for Financial Inclusion at Accion.

John Owens, “<a href="http://www.centerforfinancialinclusion.org/programs-a-projects/cfi-fellows-program/783">Responsible Digital Credit</a>,” Center for Financial Inclusion at Accion. Forthcoming, 2018.

George Ngigi, “<a href="https://www.businessdailyafrica.com/economy/Pain-of-Kenyans-blacklisted-for-amounts-as-small-as-Sh100/3946234-3374120-r0r2bfz/index.html">Pain of Kenyans Blacklisted for Amounts as Small Sh100</a>,” Business Daily Africa, September 2016.

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Start-Ups and Digital Innovation: Are Fintechs in Africa Over-Indebting their Customers?

Credit Provision

Customer Centricity

Financial Service Providers

Fintechs

Very small instant consumer loans have ballooned from 11 deployments in 2011, to 52 in 2016, with a particular concentration in East Africa. In just a few years, through models such as M-Shwari, M-Pawa, Tala and Airtel Money, tens of millions of people have borrowed tiny amounts over their phones. These services represent an enormous increase in formal financial inclusion. They address a fundamental consumer need previously unavailable to lower income people from the formal financial system: the need for very short term money management tools to cope with income and expense volatility. While they are in many ways a boon, they also contain, and in some cases heighten, risks for their users.

This Brief enumerates and discusses emerging consumer risks posed by these products, using the Client Protection Principles as an organizing framework. We hope this lens will assist the mobile financial sector to articulate and build a consensus about responsible practices in mobile finance.

&nbsp;

Tiny Loans Big Questions: Client Protection in Mobile Consumer Credit

Agence Francaise de Developpement

Mastercard Foundation

Telcos

Report

If you’re based in the United States, you’ve likely heard about how student loan debt is problematic and has been for years. The growing volume of student debt that has become more and more the norm is so high, its effects can be overwhelming. But how bad is it? Is it just a matter of students needing to hunker down (a little longer) and pay their dues (a little more)?

To give you a sense, between 2004 and 2014, there was a <a href="http://www.epi.org/publication/the-class-of-2017/">74 percent</a> increase in student loan balances, according to the Federal Reserve Bank of New York. Delinquency rates for student loans are <a href="https://www.nytimes.com/2017/05/20/opinion/sunday/student-debts-economy-loans.html?_r=0">higher</a> than those of home mortgages, car loans, or credit cards. And a 2015 survey of borrowers by the nonprofit American Student Assistance (ASA) found that <a href="http://www.asa.org/site/assets/files/4743/life_delayed_whitepaper_2015.pdf">one in five</a> respondents postponed marriage due to the hardship of student debt, and for the same reason over half of respondents delayed purchasing a home.

If you’re currently saddled with student loan debt, you might be agreeing that your massive loans affect your life, maybe even in more ways than you realize. If you don’t have student loan debt, you might be thinking that education is an investment, and this is the price that one has to pay to get its unique returns.

From where I sit, I think the student loan system is broken, and it’s hampering not only the financial health and lives of those with student loans, but the economy writ large. And I don’t think it has to be this way. This is a crisis that’s uniquely American.

In the United States, there are roughly 54 million millennials (one is <a href="https://en.wikipedia.org/wiki/Millennials">typically considered a millennial</a> if they were born during the time frame of the early 1980's to the mid 1990's or early 2000's) in the workforce, and about <a href="https://www.bostonglobe.com/lifestyle/real-estate/2016/09/30/student-loan-debt-causes-chain-reaction-housing-market/p6DGy4f2px9vadMJnKr39O/story.html">70 percent</a> of them have student loan debt. Between 2004 and 2014, the number of student loan borrowers increased by <a href="http://www.epi.org/publication/the-class-of-2017/">92 percent</a>, and, as already mentioned, the average student loan balance increased by 74 percent. As of 2013, roughly <a href="https://www.nytimes.com/2017/05/20/opinion/sunday/student-debts-economy-loans.html?_r=0">40 percent</a> of American households headed by someone younger than 40 years old had student loan debt, with this debt volume averaging nearly $30,000. While the cost of a four-year college education in the United States, when adjusted for inflation, is <a href="http://www.epi.org/publication/the-class-of-2017/">two and a half times higher</a> than it was in the 1978-79 school year, across this same time period, the inflation-adjusted median family income increased by only 20 percent.

In nominal terms, the volume of student loan debt in the United States is <a href="https://www.nytimes.com/2017/05/20/opinion/sunday/student-debts-economy-loans.html?_r=0">$1.3 trillion</a>, more than twice the total in 2008, and more than the current volume of car loan or credit card debt. The delinquency rate on student loans is higher than that of any other form of borrowing in the country, at roughly 10 percent. Of course such defaults can negatively affect future borrowing. And, to make matters worse, students <a href="https://www.bostonglobe.com/lifestyle/real-estate/2016/09/30/student-loan-debt-causes-chain-reaction-housing-market/p6DGy4f2px9vadMJnKr39O/story.html">increasingly</a> take out student loans and do not graduate from school.

We at CFI have <a href="http://www.centerforfinancialinclusion.org/publications-a-resources/browse-publications/807-beyond-financial-inclusion-financial-health-as-a-global-framework">recently shared research</a> on the concept of financial health. Financial health is a relatively new term in the financial inclusion community, and it assesses how well one’s daily financial systems enable a person or household to build resilience to shocks and pursue opportunities and dreams. In collaboration with the Center for Financial Services Innovation (CFSI) and Dalberg’s Design Impact Group (DIG), we carried out a <a href="http://www.centerforfinancialinclusion.org/storage/documents/FinHealthGlobal-FINAL.2017.04.11.pdf">year-long study</a> into how to adapt CFSI’s U.S.-based financial health framework to a developing country context. The study found that the concept of financial health can effectively be applied in many contexts, but specific contextual factors need to be accounted for.

We also applied this financial health research to a United States setting, which brings us back to the subject of student debt. We created a financial health assessment and <a href="https://cfi-blog.org/2017/06/14/accions-financial-health-results-of-a-survey/">disseminated it to Accion’s staff</a>. One of the big findings was that among Accion staff in their twenties, student loans are by far the dominant form of debt. Many of these individuals indicated that their student loan debt is a big and difficult issue for them to manage. Conversely, relatively few staff reported the same difficulties regarding their mortgages, and very few non-U.S. Accion staff reported holding student debt.

Beyond the negative effects of student loan debt on the borrower, evidence is mounting on the negative effects for the larger economy. Take the housing market in the United States, where homeownership is at a <a href="https://www.bostonglobe.com/lifestyle/real-estate/2016/09/30/student-loan-debt-causes-chain-reaction-housing-market/p6DGy4f2px9vadMJnKr39O/story.html">50-year low</a>. A survey from the National Association of Realtors and the ASA found that <a href="http://www.asa.org/site/assets/files/1777/nar_student_loan_debt_and_housing.pdf">71 percent</a> of student loan borrowers who didn’t own a home indicated that their student loans were the main prohibitive factor. More than half of these non-homeowner borrowers estimated that student loans would push their purchasing a home back by at least five years. In 2013, one in five student loan borrowers paid <a href="http://www.jchs.harvard.edu/sites/jchs.harvard.edu/files/lew_research_brief_student_loan_11_2015.pdf">14 percent or more</a> of their income on their student loan payments. This debt, especially if coupled with auto loans or credit card debt, leaves less room for both borrowers and lenders to qualify for or feel comfortable with the additional obligation of a mortgage.

A study by Fannie Mae found that, in general, college-educated Americans are <a href="https://www.bostonglobe.com/lifestyle/real-estate/2016/09/30/student-loan-debt-causes-chain-reaction-housing-market/p6DGy4f2px9vadMJnKr39O/story.html">27 percent more likely</a> to own a home than those who are high school-educated; however, those with student loan debt who fail to graduate are 37 percent less likely to own a home than those who simply graduated from high school.

Citing the Harvard Joint Center, Jon Gorey of The Boston Globe <a href="https://www.bostonglobe.com/lifestyle/real-estate/2016/09/30/student-loan-debt-causes-chain-reaction-housing-market/p6DGy4f2px9vadMJnKr39O/story.html">outlines</a> how first-time buyers cause a chain reaction in the economy, affecting the broader housing market as well as related industries like home appliances. When there are fewer first-time home buyers, it makes it more difficult for homeowners to trade-up.

So, what’s the solution?

There are many angles of attack that could help, starting with wages. A recent piece by The New York Times <a href="https://www.nytimes.com/2017/05/20/opinion/sunday/student-debts-economy-loans.html?_r=0">cites</a> the potential for wage growth from: increasing collective bargaining power among white-collar and service-sector workers; making salaried workers more eligible for overtime pay; ending discriminatory pay practices; and making it tougher for U.S. companies to outsource overseas.

Perhaps the most obvious approach, as suggested by the average tuition figure cited above, would be lowering the cost of education. We saw encouraging steps taken in this direction just two weeks ago by the State of Michigan. The University of Michigan announced its “Go Blue Guarantee” program which provides qualifying students from families in Michigan with incomes below $65,000 a year with free tuition for up to four years. The program begins next January and reportedly will not result in the reduction of any need-based aid for students from families earning more than $65,000. In its <a href="http://ns.umich.edu/new/releases/24912-u-m-unveils-tuition-guarantee-for-michigan-students-with-need">news release</a> the University noted “tremendous credit also goes to our generous donors whose philanthropic commitment to financial aid underlies the financing of the 'Go Blue Guarantee.'"

Lastly, bolstering student loan borrowers’ money management skills is essential. Student borrowers are young and often inexperienced when they take on their debt commitments.

For more, including on good money management, learn about our financial health research <a href="http://www.centerforfinancialinclusion.org/publications-a-resources/browse-publications/807-beyond-financial-inclusion-financial-health-as-a-global-framework">here</a>, and take our survey to assess and better understand your own financial health <a href="https://www.surveymonkey.com/r/Q72Y2QQ">here</a>.

Have you read?

<a href="https://cfi-blog.org/2017/06/14/accions-financial-health-results-of-a-survey/">Accion's Financial Health - Results of a Survey</a>

<a href="https://cfi-blog.org/2017/05/23/explore-your-own-financial-health/">Explore Your Own Financial Health</a>

<a href="https://cfi-blog.org/2017/03/29/dollar-by-dollar-or-goat-by-goat-how-financial-health-translates-across-oceans/">Dollar by Dollar or Goat by Goat: How Financial Health Translates Across Oceans</a>

How Bad Is the U.S. Student Loan Debt Situation?

Financial Health

&gt; Posted by Sonja Kelly, Director of Research, CFI

In ethics, there is a commonly shared thought experiment called the trolley problem. You are standing next to trolley tracks, and a trolley is coming. In its current trajectory, it is going to run over five people who are tied to the tracks. You could divert the train using a lever in front of you, but then the trolley would hit one person tied to the tracks. Do you become active in this scenario and sacrifice the one person? Or do you abstain from involvement and watch the five people get run over?

<a href="https://commons.wikimedia.org/wiki/File:Trolley_problem.png"><img class="aligncenter wp-image-24127" style="border:0 solid #000000" src="https://centerforfinancialinclusionblog.files.wordpress.com/2017/09/trolly-problem.png" alt="" width="616" height="210" /></a>I don’t mean to be morbid here, but this is a thought experiment that I have been mulling over when it comes to financial inclusion.

Instead of people tied to tracks, I think of things that financial inclusion unlocks or restricts in the lives of individuals. If the world continues as is, and we don’t pull the “financial inclusion” lever, people are going to experience inequality of opportunity, financial illiteracy, a limited set of financial tools, and maybe even continued poverty—and that would be extraordinarily unfortunate. A world without financial inclusion would be an unequal and discouraging place from my perspective.

But as we enable financial inclusion, we must admit that there are also good things that we may be restricting and bad things that we may be unlocking.

People who relied previously on social capital and informal financial services might find that decoupling their finances from their relationships weakens those relationships, for example. Or they might find that they no longer have repayment structures that are flexible and forgiving. Or they might find that they are enrolled in services that aren’t suited to them, perhaps because of coercive sales practices or because they didn’t fully understand the services when they signed-up.

As more commercial players enter the financial inclusion space, we may see the sector’s social mission diluted and the unlocking of negative effects. If we pull the financial inclusion lever and strengthen and enable nontraditional providers, we risk misuse of sensitive data, overindebtedness, and other unintended consequences. The financial inclusion lever could, and probably will, be responsible for eroding social capital and disrupting economic equilibrium.

On balance, I think financial inclusion is an extraordinary source for good. I’ve been advocating for financial inclusion for the past decade and I wholeheartedly believe in its value in the lives of individuals. However, there are things that we sacrifice when we push for financial inclusion. Understanding what those things are—and the value that they hold in the lives of individuals—is critically important to being responsible as we advocate for inclusion. Of course mitigating and even eliminating those sacrifices are part of what the Smart Campaign and others working to ensure responsible treatment of clients in the financial inclusion sector are all about.

But even beyond the goal of being responsible, understanding what financial inclusion makes people give up may make our industry better at creating products that fit well into people’s lives.

Image credit: <a href="https://commons.wikimedia.org/wiki/File:Trolley_problem.png">McGeddon via Wikimedia Commons</a>

Have you read?

<a href="https://cfi-blog.org/2017/07/05/offshore-financial-centers-for-financial-inclusion-an-aligned-industry-or-oceans-apart/">Offshore Financial Centers for Financial Inclusion: An Aligned Industry or Oceans Apart</a>

<a href="https://cfi-blog.org/2016/12/07/can-social-missions-be-preserved-in-initial-public-offerings/">Can Social Missions Be Preserved in Initial Public Offerings?
</a>

<a href="https://cfi-blog.org/2017/01/04/what-does-responsible-online-and-digital-credit-look-like/">What Does Responsible Online and Digital Credit Look Like?</a>

Some Thoughts on the Ethics of Financial Inclusion

Agent Banking

Banks

<img class="alignright size-full wp-image-14372" src="https://centerforfinancialinclusionblog.files.wordpress.com/2014/03/logo.png" alt="" width="262" height="66" />On January 18th, 2017, the Consumer Financial Protection Bureau (CFPB) <a href="http://www.consumerfinance.gov/about-us/newsroom/cfpb-sues-nations-largest-student-loan-company-navient-failing-borrowers-every-stage-repayment/">filed suit</a> against Navient, the largest federal and private student loans servicer in the U.S., for “systemically and illegally failing borrowers at every stage of repayment.” Allegations include:
<ul>
 	<li>Misallocating student loan payments by failing to follow instructions from borrowers about how to apply their payments across their multiple loans.</li>
 	<li>Steering struggling borrowers toward multiple forbearances instead of lower payments via income-driven repayment plans. (Forbearance is an option that lets borrowers take a short break from making payments, but that still accrues interest.)</li>
 	<li>Providing unclear information about how to re-enroll in income-driven repayment plans.</li>
 	<li>Deceiving private student loan borrowers about requirements to release their co-signer (e.g. a parent or grandparent) from their loans, which can be advantageous given some lenders’ practices surrounding the death of a co-signer.</li>
 	<li>And failing to act when borrowers complained.</li>
</ul>
Navient currently services more than <a href="http://www.forbes.com/sites/zackfriedman/2017/01/20/navient/#612707b037c6">$300 billion in loans for more than 12 million borrowers</a>.

In a competitive workforce and a society that values higher education, students with a desire to advance themselves economically and professionally must borrow when they are unable to meet their education expenses with savings or current cash flows. In the U.S., student loans ballooned in 2016 to $<a href="https://www.wsj.com/articles/more-than-40-of-student-borrowers-arent-making-payments-1459971348">1.2 trillion</a>, with $56 billion in default.

One of the <a href="http://smartcampaign.org/about/smart-microfinance-and-the-client-protection-principles">Client Protection Principles</a> promoted by the Smart Campaign is the prevention of over-indebtedness. In the developing countries where the Smart Campaign works, over-indebtedness can affect microfinance clients by causing them to work longer hours, reduce consumption, deplete savings, borrow to pay off current debt, sell assets, and deplete the assets of their relatives. Here in the United States, student borrowers may resort to many of the same strategies.

According to CFPB, Navient created obstacles to repayment by providing bad information, processing payments incorrectly, and ignoring borrowers’ complaints - illegally cheating many struggling borrowers out of their rights to lower payments. As a result of their actions, CFPB charges, Navient caused students to overpay for their loans, and harmed their credit scores, including those of disabled and veteran student borrowers.

Since its inception, the CFBP has recovered nearly <a href="http://chicago.suntimes.com/news/jesse-jackson-trumps-minion-prepares-to-gut-consumer-watchdog/">$12 billion for 27 million consumers</a> from lenders determined to have deceived borrowers, including vulnerable clients such as veterans and military families, students, seniors, people of color, and low-wage workers.

Though the Smart Campaign works mostly in developing countries, this suit highlights just how prevalent consumer protection problems are in all parts of the world, and importantly, how crucial it is to have advocates like the CFPB.

The Smart Campaign advocates full transparency in the pricing, terms, and conditions of all financial products. Lenders adhere to the Client Protection Principles by employing humane collection practices and high ethical standards in the treatment of clients. They give clients a way to address their complaints so they can be served more effectively. In essence, they ensure that clients receive services that are fair and respectful.

During his second week in office, the new President <a href="http://www.cnbc.com/2017/02/03/trump-signs-executive-order-on-financial-regulation.html">signed an executive order</a> directing the Treasury Secretary (still to be confirmed) to consult with regulators about potential reforms to the Dodd-Frank law which, among its many other provisions, created the CFPB. The Secretary’s report is due in the coming months. <a href="https://www.americanbanker.com/news/cfpbs-precarious-future-under-trump">Speculation is rife</a> that the administration will weaken the CFPB, for example, by <a href="http://fortune.com/2017/01/10/donald-trump-richard-cordray-consumer-financial-protection-bureau/">replacing its director</a>, and will propose more fundamental legislative changes to its charter. Keeping clients first and protecting vulnerable clients has been the business of the Smart Campaign, as it has of the CFPB. American financial consumers cannot afford to lose their chief advocate.

Have you read?

<a href="https://cfi-blog.org/2014/03/21/cfpb-gives-voice-to-clients/">CFPB Gives Voice to Clients</a>

<a href="https://cfi-blog.org/2014/01/22/cleaning-up-debt-collection-in-the-u-s/" target="_blank" rel="noopener">Cleaning Up Debt Collection in the U.S.</a>

<a href="https://cfi-blog.org/2016/09/19/wells-fargo-and-the-tuxedo/">Wells Fargo and the Tuxedo</a>

The U.S. Consumer Financial Protection Bureau and the Smart Campaign

Regulators

Education Finance

&gt; Posted by Pablo Antón Díaz, Research Manager, CFI

<img class="alignnone size-full wp-image-22666" src="https://centerforfinancialinclusionblog.files.wordpress.com/2017/01/img_9217.jpg" alt="img_9217" width="5616" height="3744" />

Scott Graham, Daniel Rozas, and Pablo Anton-Diaz at the “Preventing Overindebtedness in the Microfinance Sector in Mexico” panel, XV National Microfinance Summit, Mexico City, Mexico, November 2016

For the past decade, in part fueled by regulatory changes in the financial sector, there has been an explosion in the availability of credit to low-income individuals in Mexico. The Mexican microfinance sector has become increasingly concentrated and highly competitive. In 2015, the 10 largest microfinance institutions (MFIs) in the country represented <a href="http://www.prodesarrollo.org/benchmarking">81 percent</a> of the total market size, with more than <a href="http://www.cnbv.gob.mx/Paginas/PADR%C3%93N-DE-ENTIDADES-SUPERVISADAS.aspx">1,500</a> smaller MFIs sharing the remaining 19 percent.

Data from a <a href="http://www.finca.org/files/2014/05/Over-Indebtedness-in-Mexico-Its-Effect-on-Borrowers.pdf">study</a> of loan applicants to FINCA Mexico suggests that the vast majority of new loan applicants in Mexico already have active loans and that somewhat less than half of these individuals are already in arrears at their time of application. The growing evidence on overindebtedness and credit bubbles in some regions of the country is an issue that, if left unattended, could trigger severe problems.

The increasingly crowded Mexican microfinance market reflects very deep penetration of a very narrow slice of the population (microentrepreneurs in the lowest two income quintiles) and mounting pressure on new players that need to reach a healthy portfolio size in order to achieve long-term sustainability. To their credit, MFIs have made great efforts to overcome traditional geographical barriers, and the current reach of the microfinance industry covers more than <a href="http://www.prodesarrollo.org/benchmarking">90 percent</a> of the 2,500 municipalities in the country. Because of the type of customers being sought out by new players, and the already high concentration of competitors in densely populated areas, recent growth in the sector has primarily focused 0n rural areas with low Human Development Index scores. It is therefore not a coincidence that of the <a href="http://www3.inegi.org.mx/sistemas/sisept/Default.aspx?t=mdemo13&amp;s=est&amp;c=17503">five Mexican states</a> with the highest rural populations, four have the <a href="http://www.prodesarrollo.org/benchmarking">highest number</a> of operating MFIs in the country (Chiapas, Veracruz, Estado de México and Oaxaca). Three of these states also have the <a href="http://www.mx.undp.org/content/mexico/es/home/library/poverty/indice-de-desarrollo-humano-para-las-entidades-federativas--mexi.html">lowest Human Development Index</a> scores in Mexico (Oaxaca, Veracruz and Chiapas).

Indeed, the number and variety of lenders, along with the total volume of loans in the sector, have increased massively. It is safe to assume that most lenders are profiting under current conditions. What is less understandable is why so many lenders are willing to make loans with apparently little regard for the borrowers’ existing credit statuses. Institutions with proper credit discipline would theoretically avoid making risky loans for fear of write-offs and administration costs. But in Mexico, the current scenario - which includes, among other things, the highest interest rates in the microfinance world - allows some lenders to push the costs of reckless loans onto borrowers. Bad lending seems to be turning into good business in some states in Mexico – with customers paying the price.

<a href="http://www.finca.org/files/2014/05/Over-Indebtedness-in-Mexico-Its-Effect-on-Borrowers.pdf">A study</a> conducted by the Microfinance CEO Working Group (MCWG) using credit bureau data from FINCA Mexico’s loan applicants in all the main regions of the country is one of just a few studies attempting to gauge the severity of this problem in Mexico. The researchers found that almost 74 percent of new customers applying to FINCA already have loans elsewhere (with 55 percent having one or two, and 19 percent having three or more). Additionally, of the clients with outstanding loans at the moment of application, 44 percent were already in arrears. This incidence of arrears increased with the number of existing credits. For clients with two outstanding loans the incidence of arrears was 58 percent, with the number rising to almost 80 percent for those with four or more sources of credit. If we assume that the results of this study from one large MFI are representative of all microfinance applicants nationwide, it would imply an enormous number of microfinance clients in Mexico with multiple outstanding loans and an also enormous number in arrears.

In Chiapas for example, Mexico’s poorest state (with a population of almost 5 million), there are currently more than 30 registered MFIs in operation. Because of this, multiple borrowing is rampant, with the average urban client in the state carrying <a href="http://www.danielrozas.com/2013/02/14/whats-next-another-repayment-crisis/">four to five loans</a>, according to data analyzed by Daniel Rozas, while clients with as many as seven loans are not unheard of.

In November I had the opportunity to moderate a panel on overindebtedness at the annual “Encuentro Nacional de Microfinanzas” (The National Microfinance Summit) in Mexico, hosted by PRONAFIM, where some of these findings were underscored in front of a larger audience by both Daniel Rozas and Scott Graham, the researchers behind them. After listening intently to both researchers, it was heartening to see how many of the attendees that offered comments were well aware of this silent threat and in some cases had already started to take initiative inside their own institutions to come up with possible solutions to prevent a crisis.

PRONAFIM is a program managed by the Finance Ministry (Sectretaría de Economía) that provides funding for microfinance institutions. The Smart Campaign has worked closely with PRONAFIM to support client protection in the market for over a year. We announced during this panel that as part of the Smart Campaign’s close collaboration with PRONAFIM, we were working with them on how to strengthen their supervisory tools for the specific purpose of – among other things – preventing practices that can lead to the unnecessary overindebtedness of clients. This revamped tool will be launched by PRONAFIM in early 2017 and will be implemented as part of the annual supervisory visits that their compliance teams conduct with the MFI investees in their portfolio. This tool will help PRONAFIM to evaluate these MFIs against minimum industry standards in areas like transparency, prevention of overindebtedness, and responsible pricing practices to identify and correct harmful client protection practices within the institutions they support, and set an example for other competing institutions in the country. This tool is based on the Smart Campaign’s <a href="http://www.smartcampaign.org/certification/2-assess">Smart Assessment Tool</a>, which is used worldwide to examine an institution’s implementation of the seven <a href="http://www.smartcampaign.org/about/smart-microfinance-and-the-client-protection-principles">Client Protection Principles</a>.

Have you read?

<a href="https://cfi-blog.org/2016/07/01/mexico-launches-comprehensive-financial-inclusion-strategy/">Mexico Launches Comprehensive Financial Inclusion Strategy</a>

<a href="https://cfi-blog.org/2016/05/13/steering-financial-education-towards-creating-financial-capability-in-mexico/">Steering Financial Education Towards Creating Financial Capability in Mexico</a>

<a href="https://cfi-blog.org/2016/06/09/three-behavioral-implications-of-how-mexico-diaries-households-pay-for-healthcare/">Three Behavioral Implications of How Mexico Diaries Households Pay for Healthcare</a>

Growing Concerns about Overindebtedness in Mexico’s Microfinance Sector

Partnership for Responsible Financial Inclusion

Alexandra Rizzi

Senior Director, The Smart Campaign 

Isabelle Barrès

Vice President, Smart Campaign

Alex Taylor

Allyse McGrath

Anita Gardeva

Carmen Paraison

Chris Wolff

Claudio Storm

Danielle Piskadlo

Elisabeth Rhyne

Jeffrey Riecke

John Owens

Kai Hsu

Rachel Morpeth

Sergio Guzmán

Bangladesh

Belgium

Benin

Cambodia

Chile

Europe and Central Asia

Georgia

Ghana

Greece

Latin America and The Caribbean

Pakistan

Peru

Philippines

Russian Federation

South Africa

Sudan

Taiwan, China

Uganda

Alternative Data

Appropriate Product Design and Delivery

Behavioral Insights

Complaint Resolution

Consumer Credit

Credit/Debit Cards

Crowdfunding

Data Analytics

Default

Enabling Environment

Financial Capability

Governance

Impact Investing

Insurance

Microfinance

Microfinance Institutions

Payday Loans

Product Pricing

Responsible Investing

Risk Management

Saving

Smart Certification

Social Performance

Trends

Underwriting

Youth

The majority of Kenyans have mobile money accounts; their activity demonstrates digital financial services’ potential. Accion helps Kenyan innovators harness emerging technologies to create new financial services.

India is a global leader in financial inclusion. For over a decade, Accion has worked with and learned from India’s innovators, investors, and policymakers to expand economic opportunity for its people and businesses.

&gt; Posted by Alexandra Rizzi, Senior Director, the Smart Campaign

<img class="alignright wp-image-23923" style="border:0 solid #000000" src="https://centerforfinancialinclusionblog.files.wordpress.com/2017/08/kim-wilson.jpg?w=490" alt="" width="330" height="220" />The merits and pitfalls of mobile credit continue to be debated hotly in financial inclusion circles. Mobile products are making credit more accessible through branchless banking and alternative underwriting and business models. But experimenting with new ways of lending when your borrowers include those at the base of the pyramid brings steep risks and some models can be downright reckless. Which side of the fence are you on?

The Smart Campaign is seeking to assist the sector to develop a consensus about responsible online credit practice, and the good news is that these questions have recently become top-of-mind for a range of stakeholders. Quona’s Johan Bosini and Positive Planet’s Bezant Chongo gamely volunteered for an Oxford-style debate on whether mobile credit is good for its clients at the 4th Annual Mondato Summit in Johannesburg back in May.

The convenience and ease-of-access of mobile credit products are immensely beneficial to the unbanked, according to Bosini, speaking for the pro side. When juxtaposed to traditional lending products that take, for instance, <a href="https://cfi-blog.org/2015/10/22/what-do-clients-care-about-results-from-benin/">in Benin</a>, an average of almost 5 weeks to access (involving multiple trips), mobile credit seems supersonic, he emphasized. Using alternative data and analytics, mobile credit unlocks access for individuals without credit history. The reality for the poor, as elucidated by the Financial Diaries and other <a href="https://www.fsdafrica.org/credit-on-the-cusp/">research</a>, is that incomes fluctuate widely. Now with mobile credit, a person in a pinch can help smooth the inevitable bumps in income with a few clicks on the phone.

But maybe speed is not such a good idea, argued Bezant, taking the anti position. Roadside signs remind us that “speed kills.” While convenience is important, such quick and easy access to credit could lead to overindebtedness. And defaults, even for small loans, can have outsized consequences. <a href="https://cfi-blog.org/2016/09/22/digital-credit-in-africa-are-nano-loans-safe-for-consumers/">In Kenya</a>, for example, hundreds of thousands of customers were blacklisted through the country’s credit reference bureaus for outstanding mobile loans of less than Sh200 (approximately $2). Concerns remain, including the difficulty of conducting an assessment of a potential borrowers’ capacity to repay using alternative data, the challenge of effectively conveying terms and conditions over a mobile interface, and worries about <a href="https://cfi-blog.org/2017/05/01/how-secure-is-data-used-in-digital-credit/">whether clients’ data is secure</a> and whether clients understand how it’s being used.

As with many debates, in this case both sides are right. The challenge is ensure that mobile credit can bring its great benefits while maintaining adequate protections – in other words, for mobile credit providers to be able to act responsibly within a secure ecosystem. Forging the appropriate path forward will require a wide range of input, not just from those who stand to profit from providing mobile credit or from those who might see business model innovation as a regulatory fire to put out. And we are witnessing such input in this space, from fintech <a href="https://cfi-blog.org/2016/10/25/building-trust-and-growing-digital-financial-services-a-look-at-jumo/">providers themselves</a>, to researchers (see <a href="http://www.digitalcreditobservatory.org/">here</a>, <a href="http://www.centerforfinancialinclusion.org/programs-a-projects/cfi-fellows-program">here</a> and <a href="https://www.google.com/url?sa=t&amp;rct=j&amp;q=&amp;esrc=s&amp;source=web&amp;cd=1&amp;cad=rja&amp;uact=8&amp;ved=0ahUKEwij-Zbk3rjVAhXE7SYKHTVDBTUQFggoMAA&amp;url=http%3A%2F%2Fwww.cgap.org%2Fabout%2Fpeople%2Frafe-mazer&amp;usg=AFQjCNE9TC1A8x0ODAGZ8Ya3idTSBiYoXg">here</a>), <a href="http://www.itu.int/en/ITU-T/focusgroups/dfs/Pages/default.aspx">regulators</a> and <a href="https://www.google.com/url?sa=t&amp;rct=j&amp;q=&amp;esrc=s&amp;source=web&amp;cd=2&amp;cad=rja&amp;uact=8&amp;ved=0ahUKEwjIzKjp3rjVAhXEeCYKHXNYAGAQFggrMAE&amp;url=https%3A%2F%2Fwww.fmo.nl%2Fevents-detail%2Fda74d321-8072-4225-863b-1e45cb1d3b89%2Ffintech-for-inclusion-forum-and-global-summit-21-23-june&amp;usg=AFQjCNGhQ0d2nBUKY-gTJPbGsHD5HuWFiw">investors</a>. That kind of momentum creates an environment for consensus-building on responsible (and irresponsible) practices.  And at the Smart Campaign, that is music to our ears!

If we think back to the early days of the Smart Campaign and the microfinance industry, there was a considerable amount of consensus-building needed around consumer harms and mitigating practices before the Client Protection Standards were finalized. We hosted many debates ourselves. What, exactly, was an effective grievance redressal mechanism (beyond a complaints box)? What elements were appropriate in a privacy policy? How do you measure responsible pricing for microcredit? Through these debates, by individuals and organizations with the good will and commitment to advancing the microfinance industry, we ultimately arrived at a point of clear, definable <a href="http://smartcampaign.org/storage/documents/Standards_2.0_English_Final.pdf">standards</a>.

Thus it’s with a sense of déjà vu that we dive into the conversations and debates on mobile credit. The Campaign intends to support and contribute research, create public goods like tools and briefs, and facilitate a community of practice for providers. Rather than a yay or nay for mobile credit, our motto is “Work in Progress.” We hope you’ll join us!

Image credit: FSD Kenya

Have you read?

<a href="https://cfi-blog.org/2017/02/07/modelo-peru-whats-next-for-the-groundbreaking-mobile-money-platform/">Modelo Peru: What’s Next for the Groundbreaking Mobile Money Platform?</a>

<a href="https://cfi-blog.org/2017/03/01/mobile-money-in-myanmar-going-directly-from-cash-to-digital/">Mobile Money in Myanmar: Going Directly from Cash to Digital</a>

<a href="https://cfi-blog.org/2017/02/27/kopo-kopo-building-on-the-rails-of-mobile-money-in-kenya/">Kopo Kopo: Building on the Rails of Mobile Money in Kenya</a>

Can We Move from Debate to Consensus on Responsible Mobile Credit?

Vitas Argimon

&gt; Posted by Vitas Argimon, Credit Suisse Global Citizen Volunteer

This post is part of a multi-post series focused on partnerships between commercial banks and financial technology startups.

[caption id="attachment_21893" align="alignright" width="370"]<a href="https://centerforfinancialinclusionblog.files.wordpress.com/2016/08/figure-11.jpg"><img class="wp-image-21893" style="border:0 solid #000000" src="https://centerforfinancialinclusionblog.files.wordpress.com/2016/08/figure-11.jpg" width="370" height="237" /></a> (click to enlarge)[/caption]

Today’s financial sector narrative pits the new guy against the old guy. In the case of financial services, this narrative, as it is often portrayed, places commercial banks, the legacy providers, in direct competition with startups, with both parties vying for customers in a game defined by technological advances. While this narrative sometimes plays out in real life, it leaves out the complex ecosystem of interaction between the old and the new. In fact, when it comes to reaching new customer segments, old players are increasingly turning to startups.

In <a href="http://www.centerforfinancialinclusion.org/fi2020/roadmap-to-inclusion/the-business-of-financial-inclusion">The Business of Financial Inclusion: Insights from Banks in Emerging Markets</a>, CFI and the Institute of International Finance reveal that commercial banks are partnering with fintech startups in their efforts to reach the unbanked and underbanked. As challenges by tech-enabled competition mount, banks are seeking to link-up with startups as they see opportunities to reach new markets, bring down costs, and/or enhance their service offerings. Startups offer agility, a proclivity for risk-taking, and a disruptive mindset. On the other hand, banks already have the customer scale, comprehensive product portfolio, robust infrastructure, deposit insurance, branding, and experience/expertise. (See a full list of the relative strengths of banks and startups at right.) The combination of these strengths can be especially enabling when seeking out previously unreached population segments because the business models for serving those segments often depend on technologies that bring down costs. Startups can offer banks the tools they need to serve lower-income customers that would be difficult to serve within the confines of their traditional banking models. At the same time, many startups need access to customers and financial resources that banks can provide.

As part of my work as a Credit Suisse Global Citizen Volunteer, I mapped the landscape of partnerships between commercial banks and fintech startups, with a focus on those aimed at expanding services to reach the unbanked. I found four primary areas in which these partnerships are enhancing operations: blockchain and digital payments; lending and credit scoring; KYC and compliance; and financial capability building.

[caption id="attachment_21887" align="aligncenter" width="621"]<a href="https://centerforfinancialinclusionblog.files.wordpress.com/2016/08/figure-2.jpg"><img class="wp-image-21887" src="https://centerforfinancialinclusionblog.files.wordpress.com/2016/08/figure-2.jpg" alt="figure.2" width="621" height="349" /></a> (click to enlarge)[/caption]

While fintech startups and commercial banks offer great opportunities to each other to improve processes and expand operations, the challenges to forming successful partnerships can sometimes get in the way. The legacy systems that serve as the basis for bank operations remain a big obstacle to effective integration of applications provided by startups. Clunky IT platforms, deeply engrained company processes, and tough or murky regulatory environments make change very difficult and costly.

Partnerships may also present risks to commercial banks. Banks strive to have regulation-proof, air-tight procedures – and may shudder at the quick and dirty approach taken by some startups. One specific area of contention is data. Not surprisingly, banks are very protective of client identifying data, even when working with startups that need the data as part of their business model, for example, when carrying out alternative credit scoring.  Banks are wary that startups may be susceptible to hackers and cybercrime. Additionally, banks have a vested interest in keeping client data proprietary for competitive reasons. Partnerships centered on lending present their own set of challenges, including the question of which party (the startup or the bank) is considered the “lender” under law, and, in the case of innovative credit scoring models, concerns surrounding overindebtedness. Synchronizing bank protocols for risk management, may be essential to partnerships with startups.

It is important to remember that even in the face of the risks and challenges listed above, commercial banks are finding a way to partner with fintech startups, and at an increasing rate. As discovered in interviews with 24 banks as part of the <a href="http://www.centerforfinancialinclusion.org/fi2020/roadmap-to-inclusion/the-business-of-financial-inclusion">Business of Financial Inclusion</a> report, these partnerships are part of complex strategies to reach the unbanked and underbanked. They are challenging the dominant narrative about the battle between old and new, and offering another way to build a more inclusive financial ecosystem.

Have you read?

<a href="https://cfi-blog.org/2015/04/24/fintech-for-fi2020-a-conversation-on-aligning-technology-and-partnerships-for-financial-inclusion/">FinTech for FI2020: A Conversation on Aligning Technology and Partnerships for Financial Inclusion</a>

<a href="https://cfi-blog.org/2016/07/21/new-cfi-and-iif-report-reveals-banks-are-leading-financial-inclusion/">New CFI and IIF Report Reveals Banks Are Leading on Financial Inclusion</a>

<a href="https://cfi-blog.org/2016/08/23/zidishas-take-on-peer-to-peer-lending/">Zidisha's Take on Peer-to-Peer Lending</a>

Commercial Banks Are Partnering With Fintechs to Reach the Unbanked

Lawsuits and court ordered wage garnishment are becoming an increasingly common phenomenon for those in the United States who are unable to pay back their debts on time. With little regulation and consumer protection in the legal realm of debt collection, consumers are often left with few resources to fight in court and consequentially little control over the repayment of their debts.

Wage garnishment is the <a href="https://www.dol.gov/whd/regs/compliance/whdfs30.pdf">direct seizure</a> of wages to repay a debt, as permitted by a court order. For years in the United States, the practice of wage garnishment was reserved for collecting child support, student loans, and back taxes. During the recession that began in 2008, debt collectors increasingly turned to the courts as a channel to collect, and the practice of wage garnishment expanded rapidly, including to consumer debts. Rates of wage garnishment have sky-rocketed, more intensely in some regions and cities than others. In Phoenix wage garnishment rates <a href="http://www.nytimes.com/2010/04/02/business/economy/02garnish.html?pagewanted=all&amp;_r=1">increased</a> 121 percent from 2005 to 2013, Atlanta saw a 55 percent hike between 2004 and 2013, and Cleveland saw a 30 percent jump between 2008 and 2009 alone.

The new family of plaintiffs, which includes debt collectors, payday lenders, credit card companies, and medical companies, is entering civil courts at an alarming rate. These entities sue debtors to recover the debt and upon victory in the court (which is overwhelmingly granted) tack on extra fees for the suit and legal proceedings, in addition to receiving permission to garnish wages. Debt buyers are among the <a href="https://www.hrw.org/report/2016/01/20/rubber-stamp-justice/us-courts-debt-buying-corporations-and-poor">heaviest users</a> of civil courts in the United States, and in certain cities they are the most common plaintiffs.

So, why are collectors opting to go through the court system to collect debts? It works.

With relatively low costs to sue and odds of victory tipped heavily in their favor, entering the court system is reaping big payoffs for collectors. After opening a case, collectors are required to provide debtors with an official summons, which advises on the case’s court date, and a complaint, which explains why the debtor is being summoned. From the very onset of this process, the plaintiff and defendant are not on an equal playing field. A large majority of those being sued <a href="https://www.propublica.org/article/unseen-toll-wages-of-millions-seized-to-pay-past-debts">make less than</a> $40,000 a year and lack knowledge of the legal system. In many cases, the defendants may not even be aware that they are in a suit until after the court case has been decided. Ninety to ninety-five percent of the issued summons <a href="http://www.hbo.com/last-week-tonight-with-john-oliver/episodes/3/73-june-5-2016/video/ep-73-clip-debt-buyers.html?autoplay=true">go unanswered</a>, meaning that the defendants do not show up for their court date. When this happens, the plaintiff collectors win the case by default and, in most states, gain permission to collect debts and any additional costs acquired during the legal proceedings directly from wages.

In the cases where consumers do show up for their case in court, they are often unrepresented and are left facing experienced corporate lawyers on their own. It is important to note that as different from criminal cases in the U.S., the government is not required to provide legal representation to defendants in the civil court system. Therefore, defendants must seek and pay for legal assistance on their own.

Once a court order is established, it is very difficult for debtors to reverse the order or protect their wages. While federal regulation <a href="https://www.dol.gov/whd/regs/compliance/whdfs30.pdf">prohibits</a> garnishment of more than 25 percent of an employee’s take-home pay in a month, beyond this, the regulatory environment differs greatly at the state level. Some states, including Texas, North Carolina, South Carolina, and Pennsylvania, <a href="http://www.npr.org/2014/09/15/347957729/when-consumer-debts-go-unpaid-paychecks-can-take-a-big-hit">have banned</a> the practice of wage garnishment for consumer debt altogether. Other states allow collectors to continue charging high interest rates following a court order and the resulting wage garnishment. Additionally, as previously mentioned, many states allow collectors to add their own legal fees to the outstanding debts, with few regulatory guidelines. For example, in a case filed by a debt collector in Louisiana in 2012, $1,782 in attorney fees and $1,509 in court costs <a href="https://www.propublica.org/article/when-lenders-sue-quick-cash-can-turn-into-a-lifetime-of-debt">were added</a> to an original debt of $2,993.

While the court system should be a resource available to corporations to collect money they are owed, the current regulatory environment fails to protect consumers and disproportionately places the costs of the system on their shoulders. Given the gaps in current federal legislation, states should pursue greater protections for their citizens, including limiting the additional interest charges if a court suit is settled, prohibiting the addition of exorbitant legal fees to outstanding debts, and potentially prohibiting wage garnishment on consumer loans all together. In a financial system where consumers are often in the dark, it is important that the legal system does not perpetuate existing inequalities between large corporate lenders and individual borrowers.

Have you read?

<a href="https://cfi-blog.org/2014/01/22/cleaning-up-debt-collection-in-the-u-s/" target="_blank" rel="noopener">Cleaning Up Debt Collection in the U.S.</a>

<a href="https://cfi-blog.org/2014/03/21/cfpb-gives-voice-to-clients/" target="_blank" rel="noopener">CFPB Gives Voice to Clients</a>

<a href="https://cfi-blog.org/2015/02/04/keeping-score-the-client-protection-principles-vs-the-u-s-subprime-auto-loan-market/">Keeping Score: The Client Protection Principles vs. the U.S. Subprime Auto Loan Market</a>

The Cost of Debt – Don’t Forget the Legal Fees

Access to credit is essential. But when lenders operate through a business model that overwhelmingly turns small loans (think $500) into insurmountable cycles of debt, they are not providing an essential service and are instead profiteering. Such is the case with the payday loan and related short-term credit markets in the United States. Today, the Consumer Financial Protection Bureau (CFPB) unveiled new proposed rules designed to improve the practices of these lenders that draw customers into cycles of debt. The aim of the rules isn’t to kill essential access to credit, but to rein-in the payday loan industry’s reliance on having a high percentage of borrowers who are unable to repay their loans and are drawn-in to repeat borrowing at higher rates and with additional fees.

There are more payday storefronts than McDonald’s restaurants in the United States. Across storefront and online lenders, there are roughly 16,000 providers serving over 19 million American households. In the U.S., payday loans typically have an annual interest rate of 390 percent or more, according to the CFPB. These loans are purportedly designed to hold borrowers over between paychecks or short periods of time. Similarly, single payment auto title loans, which use borrowers’ vehicle titles for collateral, hold an annual interest rate of about 300 percent, and are typically to be repaid within 30 days. However, the vast majority of these loans aren’t repaid in the time allotted. Considering both payday and auto title loans, four out of five borrowers aren’t able to repay their loans during the time allotted and have to renew their loan or take out another loan to cover the first one. Such actions incur additional fees and interest, and build a long-term debt trap for borrowers.

In the United States this problem causes great hardship: <a href="http://files.consumerfinance.gov/f/documents/CFPB_Proposes_Rule_End_Payday_Debt_Traps.pdf">more than one-third</a> of payday installment loan sequences and nearly one-third of auto title installment loan sequences end in default; 25 percent of car title loan customers have their cars seized; and last year the fees associated with customers needing to take out new loans to cover previous ones grew to <a href="http://thinkprogress.org/economy/2011/12/06/382752/big-banks-finance-payday-lending/">$3.5 billion</a>.

In addition to typical payday and auto title lenders, the CFPB’s new proposed rules apply to online lenders, deposit advance loans, and certain high-cost installment and open-end loans. Only consumer loans are involved, because CFPB’s authority does not extend to small businesses, although it is certainly the case that many people use personal loans for business purposes.

Key elements of the rules are:
<ol>
 	<li>The full-payment test: Under the new rules lenders would have to determine whether borrowers can afford their payment obligations without bringing on other financial hardships. They would have to verify income and check existing debt service requirements. One measure of repayment capacity for a payday loan is that a person would not have to re-borrow to repay the loan within 30 days. The rules also propose limiting the number of short-term loans that can be made in quick succession.</li>
 	<li>Principal payoff option for certain short-term loans: For loans of $500 or less, the above requirement is waived. Furthermore, provided borrowers retire at least one-third of their debt each time, up to two extensions of the loan would be allowed.</li>
 	<li>Less risky, longer-term lending options: This proposal offers lenders two ways to avoid some regulation by offering one of two alternative versions of a short-term loan. The first option would be offering loans that generally meet the parameters of the National Credit Union Administration “payday alternative loans” program. The other option would be offering loans that are payable in roughly equal payments with terms not to exceed two years and with an all-in cost of 36 percent or less, not including a reasonable origination fee, so long as the lender’s projected default rate on these loans is 5 percent or less.</li>
 	<li>Debit attempt cutoff: To deal with a related problem often encountered by payday borrowers – overdraft fees – lenders would have to give consumers written notice before attempting to debit the consumer’s account to collect payment. After two failed attempts, the lender would be prohibited from debiting the account without new authorization from the borrower.</li>
</ol>
The proposed rules are very much in keeping with the practices the Smart Campaign has championed. Its standards on avoiding overindebtedness require repayment capacity assessment, including a look at income, expenses and debt service. Its responsible pricing standards call for avoiding excessive fees, especially penalty fees. And the Campaign standards wave a red flag when the structure of a business model incorporates frequent default as an expected outcome.

The federal government is not the only actor going after payday lenders. Last month Google <a href="https://www.google.com/url?sa=t&amp;rct=j&amp;q=&amp;esrc=s&amp;source=web&amp;cd=2&amp;cad=rja&amp;uact=8&amp;ved=0ahUKEwjXgar72onNAhVDFj4KHRIZBq4QFggjMAE&amp;url=https%3A%2F%2Fwww.washingtonpost.com%2Fnews%2Fthe-switch%2Fwp%2F2016%2F05%2F11%2Fgoogle-to-ban-payday-loan-advertisements%2F&amp;usg=AFQjCNGJ8u1LKhtyFrZTNolNj8hc3rLIIw&amp;sig2=COA5Avw3P7p6q4tFmc-UTw&amp;bvm=bv.123325700,d.cWw">banned</a> ads from payday lenders, and about a dozen states have issued their own <a href="http://www.pewtrusts.org/en/multimedia/data-visualizations/2014/state-payday-loan-regulation-and-usage-rates?version=meter+at+0&amp;module=meter-Links&amp;pgtype=article&amp;contentId=&amp;mediaId=&amp;referrer=&amp;priority=true&amp;action=click&amp;contentCollection=meter-links-click">rate caps and rules</a> clamping down on the industry.

Today’s announcement involves a proposal, not a fait accompli. CFPB will be accepting comments on the proposed rules all summer before publishing the final regulations in the autumn. We are sure to see a wide array of evidence marshalled both in favor and against, and a not a few hot tempers on both sides. The first element of the rules – the Full Payment Test – is the most contentious piece. It requires significantly more underwriting and diligence/documentation on a customer than loans typically require today. This will not only increase the cost to provide these loans, it will also mean that the underwriting process is longer, potentially negating the speed and convenience benefits of payday loans.

Today the CFPB also launched an inquiry into other potentially high-risk loan products and practices that are not specifically covered by the proposed rules.

For more information on both the new rules and inquiry, and to offer your comment, <a href="http://files.consumerfinance.gov/f/documents/CFPB_Proposes_Rule_End_Payday_Debt_Traps.pdf">click here</a>.

Have you read?

<a href="https://cfi-blog.org/2014/01/22/cleaning-up-debt-collection-in-the-u-s/" target="_blank" rel="noopener">Cleaning Up Debt Collection in the U.S.</a>

<a href="https://cfi-blog.org/2014/03/21/cfpb-gives-voice-to-clients/" target="_blank" rel="noopener">CFPB Gives Voice to Clients</a>

<a href="https://cfi-blog.org/2015/02/04/keeping-score-the-client-protection-principles-vs-the-u-s-subprime-auto-loan-market/">Keeping Score: The Client Protection Principles vs. the U.S. Subprime Auto Loan Market</a>

Critical Regulation: The Consumer Financial Protection Bureau’s New Rules on Payday Loans and Short-Term Credit

<img class="alignright wp-image-21721" style="border: 0 solid #000000" src="https://centerforfinancialinclusionblog.files.wordpress.com/2016/08/banana-skins-cover.png" alt="banana.skins.cover" width="260" height="334" />What do industry leaders feel is the biggest risk facing their institutions in 2016? This question is the focus of the latest Banana Skins report for the financial inclusion sector, <a href="http://www.centerforfinancialinclusion.org/publications-a-resources/browse-publications/752-financial-services-for-all-its-all-about-strategy">Financial Services for All: It’s All about Strategy</a>. The report ranks the top perceived risks facing those providing financial services to un/under-served people in emerging markets. Produced by the Centre for the Study of Financial Innovation (CSFI), and sponsored by Citi and CFI, the study examines the rapidly changing and expanding financial inclusion landscape to better understand how providers view challenges like new technologies, new market entrants, client repayment capacity, and macro-economic risks.

This year’s report, the sixth in the <a href="http://www.centerforfinancialinclusion.org/programs-a-projects/investing-in-inclusive-finance/risk">series surveying risks facing the inclusive finance industry</a>, embraces a broader scope than previous editions, which focused exclusively on microfinance institutions. The new report reflects the advances in the provision of financial services to the base of the economic pyramid and encompasses both established providers and newer entrants like commercial banks, technology companies, and telephone and communication companies. A survey with respondents spanning practitioners, investors, regulators, and other industry stakeholders comprise the report’s findings. It’s important to note that in addition to the Banana Skins report series on inclusive finance, there is also a Banana skins report series on <a href="http://www.pwc.com/gx/en/industries/financial-services/insurance/2015-survey-report.html">insurance</a> and on <a href="http://www.pwc.com/gx/en/industries/financial-services/banking-capital-markets/publications/banking-banana-skins-2016.html">banking</a>.

So, what were the results?

The ability to design and implement a strategy was ranked as the top perceived risk. Risk management and change management were number two and three. Technology came in at risk number four, up sharply from previous surveys.

Many of the top perceived risks, like technology and change management, are different than those of years past, reflecting the challenges of surviving in a fast-changing industry. Others are more familiar, like quality of governance and regulation. Overindebtedness was <a href="https://cfi-blog.org/2014/07/14/2014-banana-skins-report-reveals-overindebtedness-as-biggest-concern-in-microfinance-industry/">ranked as the top risk</a> in the past two Banana Skins reports and it’s captured in the current report under “repayment capacity”, which comes in at risk number five.

Potentially the biggest takeaway from this year’s report is that nine out of the top 10 risks pertain to internal rather than external or market risks. These risks fall within the control of management and center on an organization’s capacity to maintain clear-sightedness and lead in a vibrant industry.

The global macro-economy was the only external risk that made the top 10, reflecting how global uncertainties can threaten markets, particularly through recession, commodity price volatility, and unstable currencies.

For more results, including how the results varied by stakeholder type and geography, read <a href="http://www.centerforfinancialinclusion.org/publications-a-resources/browse-publications/752-financial-services-for-all-its-all-about-strategy">the report</a>.

Have you read?

<a href="https://cfi-blog.org/2014/07/14/2014-banana-skins-report-reveals-overindebtedness-as-biggest-concern-in-microfinance-industry/">2014 Banana Skins Report Reveals Overindebtedness as Biggest Concern in Microfinance Industry</a>

<a href="https://cfi-blog.org/2012/09/17/banana-skins-2012-improving-mfi-governance/" target="_blank" rel="noopener">Banana Skins 2012: Improving MFI Governance</a>

<a href="https://cfi-blog.org/2011/02/04/is-microfinance-losing-its-fairy-dust-microfinance-banana-skins-2011-holds-the-answers/" target="_blank" rel="noopener">Is Microfinance Losing Its Fairy Dust? ‘Banana Skins 2011’ Holds the Answers</a>

&nbsp;

Strategy Is the Biggest Concern for Financial Inclusion Providers in 2016

&gt; Posted by the Smart Campaign

For a brief moment on Monday, all eyes in Tbilisi, Georgia were on the Smart Campaign and its findings on the well-being of microfinance clients. The Campaign presented its <a href="http://smartcampaign.org/tools-a-resources/1075">Client Voices</a> report in a high-profile event at the Georgian Parliament. Joining the event were 12 Members of Parliament from both majority and minority factions of the Government; leadership from the Central Bank, Ministry of Finance and Ministry of Agriculture; a multitude of microfinance practitioners; press and three television stations. This was the first time government representatives of the majority party, minority party, executive branch, industry, and Central Bank all got together to talk about how microfinance clients are treated. Needless to say, it was immensely encouraging to witness this demonstrated interest in the fair and responsible treatment of microfinance clients in Georgia.

The Client Voices project is a four-country research investigation that directly asked microfinance clients about their experiences and treatment. Along with Georgia, the studied countries are Benin, Pakistan, and Peru. Georgia was selected because its market hosts strong and representative institutions conducive to consensus building, and the industry’s decision-makers are currently working to update its regulatory and legal framework. The launch of the Client Voices report positioned the market to act on the project’s recommendations.

The event was co-hosted by the Business and Economic Center (BEC), a non-partisan, not-for-profit institution that works to facilitate understanding and discussion among MPs around financial, economic, and business topics. Following opening remarks by Natia Katsiashvili, Executive Director of BEC, and Giorgi Volski, MP and Chairman of the majority Georgian Dream faction (think Majority Leader in the U.S. House of Representatives), the main findings from the Client Voices project were presented. Here are a few of the key findings:


<ul>
 	<li>Georgian Clients Are Generally Happy with their Lenders: Clients were generally satisfied by how MFIs treated them. Only 5 percent said they had a “bad” or “very bad” experience with MFIs. Compared with the project countries of Pakistan and Benin, aggressive and overt client abuse is rare.</li>
 	<li>Client Understanding of Loan Terms and Conditions Is Lacking: Twenty-eight percent of clients did not know the interest rate on their loan, and another 22 percent could not recall the total amount to be paid on their loan.</li>
 	<li>Overindebtedness Is an Issue: Households with active credit report a median monthly debt-to-income ratio of 37 percent of monthly income allocated to debt repayment. Thirty-seven percent of clients have taken a loan from another source to pay a debt to an MFI, and 21 percent reported reducing food consumption to repay a debt.</li>
 	<li>Clients Are Not Well-Informed on Credit Bureaus: Clients are not aware of how CreditInfo Georgia, the only Georgian credit bureau, works. Many MFI clients fear the negative repercussions of paying late and do not have a clear idea of how credit histories are recorded and used. As a result of this fear, clients may be making extreme sacrifices to comply with tight repayment schedules.</li>
 	<li>Risky Behavior: Taking Out Loans for Others: Ten percent of loans were taken out in someone else’s name, usually by another household member or family member. A relatively higher proportion of these respondents have had a negative record with CreditInfo Georgia. They may have chosen to borrow via another formal borrower because they are unable to borrow themselves.</li>
 	<li>Complaints Mechanisms Are Lacking: Only 4 percent of respondents said that they have ever had a reason to complain to an MFI. This suggests that treatment by MFIs is generally positive. However, only 38 percent were told where to complain, and the vast majority of these were directed to a loan officer or group leader, which may deter clients from voicing concerns.</li>
</ul>
The most fervently debated topic was the dollarization of loans. MFIs in Georgia receive investments denominated in U.S. dollars, so their incentives are to give out dollarized loans. Many MFIs also issue dollar-denominated loans to hedge against currency risk. However, this risk is passed entirely to borrowers. Generally, clients don’t understand what this means and are not fully aware of the high risks associated with taking loans in U.S. dollars. They often take dollarized loans out of ignorance or pressure from the loan officer. As the currency fluctuates, they end up paying back far more than they expected. Out of those surveyed in the Client Voices project in Georgia, 30 percent of clients have a U.S. dollar-denominated loan outstanding, and 13 percent of these did not realize the risks prior to taking the loan.

Between January and October 2015, the Lari depreciated 27 percent compared with the U.S. dollar. Just recently, this practice caused widespread defaults next door in Baku, as Azerbaijan’s currency devaluation led to mass defaults. During the event discussion, the case of Azerbaijan was mentioned as a warning of what could happen if this issue wasn’t controlled in Georgia.

To respond to this problem, a focus on transparency was suggested. If clients have to bear the risk of dollarization they should know and fully understand what they are getting into and what the consequences can be. Additionally, some countries have chosen to limit dollarized loan disbursal, and some MFIs have relied on foreign-exchange swaps to enable them to lend in local currency.

Given the political divisions that exist in Georgia, it is notable that representatives came together from across Georgia’s political spectrum, including the ruling Georgian Dream faction, the Free Democrats, and the United National Movement. There were a number of people asking when Parliament is going to act on client protection, and what changes they’re going to make. A new client protection bill is long overdue.

The Client Voices report was featured on prime-time Georgian TV Monday evening with an interview of  the Smart Campaign’s Eastern Europe and Central Asia Lead, Daniel Balson, on Maestro TV, which you can watch, here: http://bit.ly/1Uv0hck

For more, including additional findings, read the <a href="http://smartcampaign.org/storage/documents/Voices_from_Georgia.pdf">Georgia report</a> from the Client Voices project.

Have you read?

<a href="http://cfi-blog.org/2016/02/18/my-turn-to-speak-voices-of-microfinance-clients-in-benin-pakistan-peru-and-georgia/">My Turn to Speak: Voices of Microfinance Clients in Benin, Pakistan, Peru, and Georgia</a>

<a href="http://cfi-blog.org/2015/10/22/what-do-clients-care-about-results-from-benin/">What Do Clients Care About? Results from Benin</a>

<a href="http://cfi-blog.org/2015/11/09/what-do-clients-care-about-results-from-research-in-pakistan/">What Do Clients Care About? Results from Research in Pakistan</a>

“Client Voices” at the Georgian Parliament

“Would you like to save $10 today?” In the United States, it seems you can’t shop anywhere these days without hearing this question at the checkout counter. According to <a href="http://www.cardhub.com/store-credit-cards/">Card Hub</a>, there are at least 134 large retailers in the U.S. offering credit cards. And of course, these offers usually sound great. Who wouldn’t want to save money on purchases? All you have to do is fill out a short form on the spot… It’s easy.

These savings can come at a price. Here are a few of my concerns about credit cards offered by the likes of Target, Macys, Sears, TJ Maxx, and others.
<ul>
 	<li>Confusion between Rewards and Credit Cards – Many retailers provide rewards or loyalty card programs. For instance, you can earn points at CVS with a card or get gas reward points at Stop and Shop. These rewards and loyalty cards are often similar to retail credit cards in that they are offered at the register, you fill out a short form to join, and you present the cards when checking out. For customers with limited financial literacy or limited English language skills, the difference between reward/loyalty cards and retail credit cards can be very confusing. It’s blurred even more by the fact that most credit cards also offer rewards – like cash back or bonus air miles. Of course, there are big differences between a card that one swipes to simply “earn points” and a card that allows one to make purchases on credit.</li>
</ul>

<ul>
 	<li>Negative Impact on Credit Scores – Credit scores are extremely important for anyone wanting to get a loan, or buy a car or a home. Though how they’re calculated is based on complex and opaque calculations. However, just having a wallet full of retail credit cards can still negatively affect your credit score. You may be judged a higher credit risk if you have signed up for many retail credit cards – even if you don’t use them – because you have the ability to go on a huge spending spree. What’s more, just having your credit score checked, which happens when you sign up for a card, may negatively affect your credit score.</li>
</ul>
<ul>
 	<li>Cashiers Are Not Bankers – If you apply for a credit card with a financial institution, the setting itself prompts many people to ask about and make comparisons on things like interest rates, credit limits, and repayment terms. In fact, there are many websites (see <a href="http://www.creditcards.com/">here</a> and <a href="https://www.nerdwallet.com/">here</a>) to help consumers evaluate financial credit cards. The idea behind retail credit cards, however, is to attract decisions based on just one thing: saving money right away at the checkout counter. Obtaining retail credit cards are mostly impulse decisions, and little is done to disclose their terms and conditions. Moreover, if you do have questions about the terms and conditions of a retail credit card, the person you are asking is a store clerk, not a banker.</li>
</ul>
<ul>
 	<li>Over-Indebtedness – Despite the sophisticated credit bureau system in the U.S., <a href="https://www.nerdwallet.com/blog/credit-card-data/average-credit-card-debt-household/">over-indebtedness is an issue</a>, especially among lower-income populations. Retail credit cards contribute to the problem of over-indebtedness in a number of ways:
<ul>
 	<li>They are ubiquitous – Everywhere you shop, every time you take a flight, a retail credit card is being offered at checkout or over a loud speaker, with incentives advertised front-and-center.</li>
 	<li>They have high APRs – The average APR on credit cards offered from America’s big retailers is <a href="http://www.creditcards.com/credit-card-news/retail_card-stores-survey-apr_2014-1276.php">23 percent</a> – a number that has recently gone up by more than 2 percentage points. For comparison, the country’s average for general purpose credit cards is about 15 percent.</li>
 	<li>They are inconvenient to pay – There is a movement to use technology to make paying bills easier. Yet, the industry lags, with retailers often mailing bills, which can get lost in the shuffle.</li>
</ul>
</li>
</ul>
Are all retail credit cards a bad idea, and should you never enroll for one? Of course not. But next time you shop you might want to think twice about saving those $10 at the checkout counter. From a client protection perspective, and given that this retail credit trend doesn’t appear to be going away, it’s essential that this corner of the industry puts equal emphasis on fair and responsible practices. For their own institutional sustainability and for their clients’ well-being, retail credit providers -- like all credit providers -- should incorporate the Smart Campaign’s <a href="http://www.smartcampaign.org/about/smart-microfinance-and-the-client-protection-principles">client protection principles</a> throughout their operations, especially including mechanisms for complaint resolution, transparency, prevention of over-indebtedness, and responsible pricing.

Have you read?

<a href="http://cfi-blog.org/2015/08/26/investing-in-native-american-communities/">Investing in Native American Communities</a>

<a href="http://cfi-blog.org/2015/09/24/discrimination-and-credit-underwriting-in-the-age-of-social-media/">Discrimination and Credit Underwriting in the Age of Social Media</a>

<a href="http://cfi-blog.org/2016/03/04/fintech-goes-to-the-festival/">FinTech Goes to the Festival</a>

The Trouble with Retail Credit Cards

Peru’s Client Voice research included the perspectives of 1,000 current and former microfinance clients to identify consumer protection challenges and opportunities in the country. The Smart Campaign selected Peru as the market in Latin America for the Client Voices project because of its strong consumer protection regulations, recourse mechanism, and well-functioning credit reporting system.
<blockquote>The top concerns that emerged for clients in Peru are prevention of over-indebtedness, transparency, and fair and respectful treatment of clients.</blockquote>
Between January and July 2015, Bankable Frontier Associates (BFA) and Datum International, a local research firm, conducted qualitative and quantitative research. Peruvian clients of savings and loan institutions, cooperatives, and NGOs offering group loans participated in the qualitative research. The quantitative research included 550 current clients and 450 former clients.

Peru has a favorable environment for financial services, in recent years earning the top spot in the Economist Intelligence Unit’s Global Microscope rankings. Although a strong government consumer complaints institution (INDECOPI) exists, over-indebtedness, transparency, and fair and respectful treatment emerge as the most prevalent concerns for clients in Peru. Addressing these concerns requires a market-level approach that takes into consideration the unique role that regulators, the microfinance industry, and clients themselves each must play.

Client Voices: Peru Country Report

Bankable Frontier Associates

Keeping Clients First