FinTech: The silver bullet of Financial Inclusion?

FinTech: Regulators take a note

The Reserve Bank of India (RBI) has released the final 'Enabling Framework for Regulatory Sandbox' with an intent to allow The Reserve Bank of India (RBI) has released the final 'Enabling Framework for Regulatory Sandbox' to allow FinTech companies to test their applications before reaching out to final consumers. A 'Regulatory Sandbox' enable FinTechs to test their new products or services in a controlled or test regulatory environment on a real-time basis. The regulator may permit even certain regulatory relaxations (on a case to case basis) for the limited purpose of the testing. The 'Regulatory Sandbox' will allow the stakeholders (regulator, FinTechs, customers) to conduct live field tests and assess the benefits and risks of new financial innovations while containing the stakes in a controlled environment. RBI, in its report, said, "The objective of the Regulatory Sandbox is to foster responsible innovation in financial services, promote efficiency and bring benefit to consumers.."

The move is quite timely and is in line with other central banks that have set up regulatory sandbox to encourage the development of new technological applications in banking. It seems RBI has learnt from its microfinance experience in the past, where microfinance crept into the discourse of RBI without a clear policy. Hence, the framework for FinTechs talks about 'Consumer Protection' in clause 6.8. The move is also timely as the ecosystem is fast-evolving in the Asia-Pacific region, and significant investments are flowing in to sustain the momentum. China and India are experiencing much greater penetration rates for FinTech services. The Americas, Europe and Asia all saw significant growth in fintech investment. The first half of 2019 witnessed a total global investment of $37.9 billion across 962 deals. While the numbers may not seem huge compared to last year, the fintech market across the globe remained strong and well-poised for growth.

FinTech is the next wave.

As per the KPMG report, Fintech investment increased substantially in 2018, with total global investment more than doubling from $50.8 billion in 2017 to $111.8 billion in 2018. Megadeals helped spur interest and activity in the FinTech market throughout the year. As per the DataLabs report, even in India, $6.97 billion was raised across 453 deals by Indian FinTech startups (2014-2018). Currently, there are approximately 2,707 Fintech Startups in India. In 2019 itself, an estimated $2.36 billion found its way into Indian FinTech startups. According to DataLabs estimates, Karnataka (87), Maharashtra (87) and Delhi NCR (66) have the highest concentration of funded FinTech startups in India. Currently, the concentration of FinTech startups seems to be skewed towards the Indian metros. One of the possible reasons is the requirement of a large amount of capital and a highly skilled workforce readily available in tier 1 cities such as Bengaluru, Mumbai and Delhi NCR, compared to Tier - II locations.

FinTech: Addressing The Unbanked Indian?

Fintech's ability to merge cutting edge digital technology with state of the art data sciences has made it the darling of the investment community. While FinTech is agnostic to consumer segments, one cannot miss that its most enormous potential lies in reaching out to the unbanked. Globally, ~70% of adults (3.8 bn.) now have an account at a bank or mobile money provider as per World Bank. Interestingly, about 32% (1.2 bn.) of these accounts have been added since 2011. Also, a significant increase has been witnessed in mobile phones and the internet to conduct financial transactions. Between 2014-17, it has led to a substantial rise in the share of account owners sending or receiving payments digitally. To be more precise, the percents have gone from 67% to 76% globally and from 57% to 70% in the developing world.

In India alone, around 19 crore adults are without a bank account despite the success of the ambitious Jan Dhan Yojana, making it the world's second-largest unbanked population after that of China, as per the World Bank report. Besides, almost half of the bank accounts remained inactive in the past year. The report also said that 11% of the world's unbanked adults are in India. Given this tremendous opportunity and ability of FinTech to redesign the mechanism of new financial services delivery and redefine the experiences to end customers, the scope is vast. And such solutions have been succeeding in both emerging and developing economies, creating solutions specifically for underserved, low-income, or remote customers.

To understand how specific FinTech innovations solve pain points in financial inclusion, in 2016, CGAP supported pilots with 18 Fintech in Africa and South Asia that targeted financial services to low-income or underserved customers. Their case studies identified five types of FinTech innovation that offer the potential for financial inclusion. The results of their findings are as follows:

A. Interactive customer engagement: Historically, financial literacy programs for the undeserved have delivered mixed results, yet technology has the potential to provide customized information and knowledge that is cheaper, scalable, and effective. However, technology itself is not enough; efforts need to understand the underserved community's need for information. It is also crucial to have robust mechanisms to measure the effects on engagement with financial services. Contracts between the learning platform vendor and the Financial Service Provider (FSP) need to include an adequate degree of data sharing, which improves the platform's ability to produce valuable insights. There needs to be a cost-effective balance between technology and "human" (high-touch) interaction. At the same time, being customer-centric and maintaining a long-term vision is crucial to success.

1. FinTech's ability to generate robust analytics on engagement through its platform, leading to increased use of the financial services, was integral to understanding its value proposition to the customer and the FSP.
2. Different communications strategies with each FSP may be required as lessons are context-specific and not one-size-fits-all. Spending the time to test and learn what works for each audience and tailoring the relationship can make a significant difference.
3. Sharing social proof such as hypothetical stories based on actual use cases is a good starting point. Gradually the interaction through messages may increase. Providing customer-centred information (secret tips) as a part of the conversation, as opposed to general instructive information and Initiating question-and-answer conversations, increases engagement levels.
4. Offering choices (languages, topics of conversation etc.); Shaping the conversation and Feeling heard increased the customer engagement levels and led to specific, actionable product feedback.
5. Allow new users to explore and test the service before registering for full use. Images, text and especially video can be handy to explain how the service can be helpful. Even on the investor side, from established players to early-stage companies, all use blog posts, social media messages and innovative educational videos to explain the opportunity and help them make informed decisions.

B. Smartphone-based payments: The spread of smartphones and mobile-phone use has spurred the need to create innovative applications that leverage intuitive user interfaces and user experiences (UI/UX) to reduce dormancy in payments and encourage greater use. These applications are for the mass market - the underserved customer. Deliberately designed to use fewer data and storage and appeal to younger, tech-savvy, yet largely underserved populations in emerging markets.

1. It warrants the availability of an extensive acceptance network that can respond to requests for cash. This facility is not easy to build from scratch, and sometimes it may require relying on an existing agent network to facilitate early transactions. Regulation issues and the necessary license to provide services are other areas impacting such an arrangement.
2. It must provide in-app guidance and access to agents' addresses and phone numbers so that users can find the most convenient or most reliable agent. Having a straightforward initial application sign-up is crucial to speed customer acquisition. Allow users to navigate directly to what they want and focus on taking actions or doing (not simple navigation) within menus. The preference for quick visual cues over text is welcome but test it first on local users to avoid confusion. Using familiar designs and plain language already in use is another element impacting the user convenience.
3. It should use consumer usage data to derive popular actions and customize the interface and choices as per their unique usage. Features such as auto-fill or quickly repeating past transactions are helpful. Provide a simple feedback mechanism and clear pathways to resolve problems. Customized, simple keyboards; a fee calculator alongside the transactions; a consolidated summary transaction information on one screen; finding the account balance easy; easiness to hiding the balance on the screen are helpful.
4. And for the users in remote areas with poor connectivity or who buy data from one provider using a wallet from another, service providers must consider additional factors. Like the ability to send money by selecting a contact from the phone book, a ready list of various utility accounts (say electricity) on the app's interface, several wallets for several SIMs, and the ability to use the app offline are particularly relevant.

C. Connections-based finance: Digital technologies help customers connect to social, entrepreneurial, and community networks to access small amounts of credit when cash-flow gaps arise in business and life. These services build customers' creditworthiness and access to finance through existing or new connections. The small amounts keep the risk low, and the timeliness helps customers better plan for cash-flow gaps and emergencies.

1. Until a FinTech builds a larger group of customers, its success hinges on its partnerships with other FSPs, especially its credit partners, and their partners' willingness to lend to their customers. A FinTech cannot control the user interface of its mobile partner and faces high API integration charges, which it cannot incur at this point. However, in the absence of a better alternative, customers might be willing to overcome the inadequacies of the mobile payment interface to access timely cash-flow relief.
2. The lower-income segment typically requires an element of human interaction. The last mile bridge helps people understand the product and overcomes trust barriers. The factor to watch out for here is balancing the operation costs for these measures with a scalable business model. If many customers successfully repay and return for more loans - These costs can reduce significantly.
3. Also, the service providers can use technology to strengthen traditional financial relationships by reducing friction and providing visibility and helping people expand and maintain their networks (rural-urban). The platform should be made more effective by the right messaging strategy. For example, A heading that reads "Give today, receive tomorrow" could inspire reciprocity-driven contributions. A message like "Giving now increases your chance of succeeding with a future fundraising campaign" could be used to encourage trust-driven giving. Also, fostering a sense of community on a fundraising platform will increase use.
4. There was no evidence that peer-to-peer framing increases loan repayment. There was some evidence that this framing could increase retention, thus increasing the chances of the borrower taking a second loan with the same lender. Customers who received an SMS message and a call (with the correct messaging) were more likely to take a second loan.
5. The success of services based on two-sided or multi-sided networks hinges on a collaborative approach to mitigate the risk through pooling data. If each side of the network builds strong credit scores for each supplier, it will improve the lender group's overall information ecosystem. The resulting information pool would enable testing different pricing models for each supply chain. FinTech firms will need to focus on leveraging such data pool and expand strategically.

D. Location-based smallholder finance: Use of digital technologies and alternative data sources to reduce cost and expand access to financial services, such as credit and insurance, and to other valuable extension services for (say smallholder farmers) customers

1. Fintechs must focus on marrying different location data to build an image-based scoring model compared to an overall credit-scoring model comprising other factors and variables. Using a relevant loan performance sample to achieve a high degree of predictability - supported by an initial model using location-based data needs to be iterated and tested through several cycles of loans and repayment for success.
2. A cost-effective way to gather information is critical to scaling and expanding access. Remote assessment models can be cost-effective to collect data (farmer location) and are practical and scalable. Input distribution and fulfilment via local dealers can be cost-effective and logistically simpler to manage than direct delivery. Effectiveness of communication is crucial when introducing more complex financial products (bundled products)
3. Innovative satellite data applications have enormous potential to improve efficiency and effectiveness within smallholder insurance markets. Also, it is critical for insurers to partner with the public (especially) and private actors to facilitate access to accurate yield data, past and present, which are needed to complement satellite data. Larger yield data sets that cover larger geographical areas and more extended periods may eliminate the need for yield sampling.

E. De-risking unproductive expenses: Helping low-income people pay for unexpected or significant expenses through de-risked credit while using unique features to reduce the risk for the financier.

1. The most significant remains the time required for the FSP to conduct a loan assessment and the cumbersome data-sharing process between FinTech and the FSP. The agreement between the two must include complete system integration through an API; mandatory training of FSP staff, including those in branches, before launch; full visibility into incentives for branch staff and loan officers and clearly defined project governance structures. With a group like farmers making the technology, work remains a significant challenge. Also, the lack of connectivity adds to the complexity.
2. Customers indicated that the feature they valued most was insurance coverage duration. The other factors—the amount of coverage and number of family members covered—were also important. And a combination of all three increased people's willingness to pay. Identification of these three drivers suggests that the preferred solution should cover family members and offer a reasonable coverage amount, but that extending the duration of coverage should be emphasized.

Needless to say that the combination of rapid strides in financial services technology and an honest commitment to financial inclusion by policymaking institutions will go a long way in addressing the problem. We are at the cusp of a unique opportunity to resolve some of the most intractable challenges for financial inclusion and reach 'last mile' consumers with high-quality financial services. I remain pretty optimistic about the space, for it sees financial inclusion as an opportunity and not as a challenge to address.