Meanwhile, the poor or unbanked in the US often end up depending on alternative financial services – like payday loans with exorbitant interest rates – that ultimately lead to even greater economic insecurity.
Some 16.7 million adults living in the US don’t have bank accounts, while approximately 50.9 million adults are considered “underbanked” – they have a bank account but also use alternative financial services, according to the latest research by the Federal Deposit Insurance Corporation.
These households, on average, have annual incomes of about $25,500, and spend roughly $2,412 per year on alternative financial services’ fees and interest, according to a report released last year by the United States Postal Service inspector general.
This article titled “Can the US improve financial services for the poor using lessons from developing countries?” was written by Rachel Barron, for theguardian.com on Friday 23rd October 2015 17.30 UTC
The US has fallen behind some developing countries when it comes to creating financial services aimed at serving the poor. That’s according to Arjan Schütte, founder and managing partner of the Los Angeles-based venture capital firm Core Innovation Capital, who spoke earlier this month at the Social Capital Markets conference in San Francisco.
As an example, Schütte pointed to mobile-based money transfer service M-Pesa, which launched in Kenya back in 2007 and has changed the way many Kenyans participate in their economy. The service gives people the ability to send and receive money and pay bills electronically, regardless of whether they have a bank account.
According to telecommunication company Vodafone Group, which developed the money-transfer service product, the total value of transactions handled through the M-Pesa system in Kenya grew 26% in the last financial year to .1bn, servicing some 13.86 million customers who made one or more transactions within a 30 day period in the same timeframe.
Meanwhile, the poor or unbanked in the US often end up depending on alternative financial services – like payday loans with exorbitant interest rates – that ultimately lead to even greater economic insecurity. Schütte, an impact investor who aims to make profitable investments that also yield social or environmental benefits, hopes that applying lessons from other countries can help change this. “Clearly there is a lot to learn from what’s happening around the world,” he said.
His company has invested in companies such as Vouch and Oportun, which launched in part to help US residents without access to traditional banking institutions. Some 16.7 million adults living in the US don’t have bank accounts, while approximately 50.9 million adults are considered “underbanked” – they have a bank account but also use alternative financial services, according to the latest research by the Federal Deposit Insurance Corporation.
These households, on average, have annual incomes of about ,500, and spend roughly ,412 per year on alternative financial services’ fees and interest, according to a report released last year by the United States Postal Service inspector general.
But while the need is there, serving low income communities in the US isn’t as easy as simply adopting financial services that have worked in other countries, according to Schütte. Different banking infrastructures, and the type of reliable credit ratings, or any credit ratings at all, that lenders have available to assess a loan applicant’s default risk, highlight just a few reasons why a financial service from an emerging market can’t simply be transplanted to the US.
Still, Schütte thinks the US can learn some lessons from abroad, even if systems and products can’t be transplanted wholesale. For one thing, there’s the concept of social collateral.
Bangladesh’s Grameen Bank, for example, provides microloans and uses a person’s community to help ensure loan payments are fulfilled. As part of the loan process, borrowers are put into a five-member group. Although the individual borrower is solely responsible for repayments, the group’s awareness of the person’s financial responsibility has led to strong payback rates of 98%, according to the Grameen Foundation.
“The microfinance world, for example, has figured out very powerfully how to use your community, and your friends, and your loved ones, and the notion of shame, for example, to decrease defaults,” Schütte said. “This notion of social collateral is something that the United States barely utilizes.”
That’s the idea behind Vouch, a company that uses a loan applicant’s social network to help make credit decisions, such as the size of a loan and its interest rate. These contacts vouch for the borrower and agree to help pay back the company if the borrower can’t.
Oportun, a Core Innovation Capital-backed company, is working to help Latinos living in the US who have minimal or no credit histories build their Fair Isaac Corporation (FICO) scores, which are key to being considered eligible for loans. Roughly 53 million Americans don’t have FICO scores, according to the company.
Unlike many alternative lenders, Oportun shares a client’s payment progress with credit reporting agencies that use FICO scores to summarize a person’s credit report. It’s a key piece of the puzzle given that a good FICO score can help people secure more affordable loans. FICO scores are also increasingly used to assess a person’s reliability for things like renting an apartment and holding down a job when seeking employment.
Meanwhile, like Oportun, other companies have created tech that is playing a role in helping the unbanked. Ingo Money, for instance, offers an app that allows users to cash checks via their mobile phone to fund a prepaid card.
Aside from potentially aiding financial inclusion, all these services also are chasing an attractive market opportunity: the Financial Service Centers of America, a trade organization that represents many alternative banking services companies, estimates the annual market at 6bn in products and services, and 30 million customers.
But launching new services for the unbanked is still a risky proposition. Although business gurus have long theorized that there are lucrative profits to be made from serving the world’s poor, realizing such ambitions has proved challenging.
Schütte is betting his firm can make market rate returns – which he puts between 25% to 35% – from these investments. It’ll likely be a decade before he’ll know if he’s right.
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