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How are Financial Capability and Financial Access Linked? Insights from Colombia and Mexico

Miriam Bruhn's picture

Access to formal financial services has been expanding in recent years.  But as people start to use these services for the first time, it has become clear that the challenge is not only providing access to financial services, but also ensuring that people have the behaviors and attitudes to use financial products responsibly and to their advantage. If not, increased access to finance could potentially lead to over-indebtedness and even financial crises.

Two recent nationwide surveys of 1,526 adults in Colombia and of 2,022 adults in Mexico measure financial capability to provide insights on how people manage their finances. The term “financial capability” refers to a broader concept than financial literacy or knowledge alone. It covers a number of different behaviors and attitudes related to participation in financial decisions, planning and monitoring the use of money, and balancing income and expenses to make ends meet.

The financial capability surveys find for example that, in Mexico, many make financial plans, but far fewer adhere to them. Seventy percent of those surveyed say they budget, but just one-third reported consistently adhering to a budget. Similarly, just 18 percent knew how much they spent last week. In Colombia, while 94 percent of adults reported budgeting how income would be spent, less than a quarter of those surveyed actively monitored spending or had precise knowledge of how much is available for daily expenses.

Policies to foster mobile banking development

Eva M. Gutiérrez's picture

Mobile banking (m-banking) — the use of mobile phones to conduct financial and banking transactions — represents a key area of financial innovation in recent times. Mobile banking allows banks’ customers convenient access to a variety of banking functions, and increases efficiency.  Customers can access funds in their bank accounts at all times through mobile phones, and transaction costs are driven down. Even when individuals have access to bank accounts with low fees, m-banking can reduce the opportunity cost of financial transactions.

Mobile banking has also been identified as a potentially significant contributor to financial inclusion by the G-20. While half the adults worldwide do not have access to formal bank accounts, it is estimated that more than 2 billion of those unbanked already own a mobile phone. Unbanked individuals cite difficulties in obtaining a bank account such as living too far away from branches, not possessing necessary documents, or high banking costs.  All such barriers to finance can in theory be overcome through a pivot in business model that is supportive of m-banking.

M-banking has flourished both in developed and developing countries in various forms in response to structural characteristics. The model of providing financial services through a mobile phone linked to a bank account is referred to in the literature as the additive model. The use of m-banking in developed economies often follows the additive model. This contrasts with the practice of using m-banking to target the unbanked - the transformative model. Under this model, non-banks issue electronic currency to offer costumers payment services and value storage services.

Do firms in developing countries grow as they age?

Asli Demirgüç-Kunt's picture

The answer is yes, but not as fast.  In the U.S. for example, we know that new businesses start small, and if they survive, grow fast as they age. An average 40 year old US plant employs over seven times as many workers as the typical plant five years or younger. In a new paper, my co-authors Meghana Ayyagari, Vojislav Maksimovic and I focus on developing countries and look at what happens to firms in the formal sector as they age. We focus on formal firms because informal firms look very different from formal firms in terms of size, productivity and education level of managers and there is little evidence that growth occurs by informal firms eventually becoming large formal establishments. We see that there the average 40 year old plant employs almost five times as many workers as the average plant that is five years or younger.

Financial Inclusion of Informal Firms — Status and Determinants

Subika Farazi's picture

Informal economies are a significant part of developing countries across the world and according to some estimates can represent around 60 percent of countries’ official GDP (Schneider, et al. 2010). IFC estimates suggest that some 80 percent of micro, small, and medium enterprises in emerging markets and developing countries are informal today. Access to finance is by far the biggest obstacle these firms face (Figure 1). This obstacle is more acute for firms that would like to register, and it becomes critical as firms grow in size (Figure 2). Considering that about two-thirds of full-time jobs in developing economies are provided by such firms, it is essential to better understand issues around access to finance for informal firms. A paper that I recently wrote on the subject (Farazi 2014) as part of the work on the 2014 Global Financial Development Report is an attempt in this direction.

Equilibrium Credit: Providing Not Too Much, Not Too Little Credit to the Economy

Martin Melecky's picture

Credit is actively used by only about 8 percent of people in developing countries and about 14 percent in developed countries (World Bank Findex). The observed gaps in financial inclusion thus suggest that greater access to credit is warranted.

However, finance can be a double-edged sword. Rapid financial development and deepening can cause accumulation of systemic risk and lead to costly financial crises (Reinhart and Rogoff 2009). Banking crises in Thailand (1997), Colombia (1982), and Ukraine (2008), for example, were preceded by excessive credit growth of 25 percent, 40 percent, and 70 percent per year, respectively. Providing the right amount of credit—not too much and not too little—is thus a major concern for countries and their policy makers.

When credit provision becomes excessive or insufficient is judged against an unobserved benchmark known as equilibrium credit. Estimating equilibrium credit is one of the most challenging tasks of determining excessive or insufficient credit provision.

Islamic Finance: A Quest for Publically Available Bank-level Data

Amin Mohseni-Cheraghlou's picture

Attend a seminar or read a report on Islamic finance and chances are you will come across a figure between $1 trillion and $1.6 trillion, referring to the estimated size of the global Islamic assets. While these aggregate global figures are frequently mentioned, publically available bank-level data have been much harder to come by.

Considering the rapid growth of Islamic finance, its growing popularity in both Muslim and non-Muslim countries, and its emerging role in global financial industry, especially after the recent global financial crisis, it is imperative to have up-to-date and reliable bank-level data on  Islamic financial institutions from around the globe.

To date, there is a surprising lack of publically available, consistent and up-to-date data on the size of Islamic assets on a bank-by-bank basis. In fairness, some subscription-based datasets, such Bureau Van Dijk’s Bankscope, do include annual financial data on some of the world’s leading Islamic financial institutions. Bank-level data are also compiled by The Banker’s Top Islamic Financial Institutions Report and Ernst & Young’s World Islamic Banking Competitiveness Report, but these are not publically available and require subscription premiums, making it difficult for many researchers and experts to access. As a result, data on Islamic financial institutions are associated with some level of opaqueness, creating obstacles and challenges for empirical research on Islamic finance.

On Economic Rationality, Bubbles, and Macroprudence

Biagio Bossone's picture

(Non-)rationality in economic decisions

As last year’s choice of the Nobel award for economic sciences well reflects, economists are deeply divided as to whether, and how, rationality should be modified as a basic assumption for modeling asset allocation and pricing decisions.

The three Nobel laureates for 2013 — Eugene Fama, Lars Peter Hansen, and Robert Shiller — epitomize the economics profession’s broad spectrum of positions currently existing on the subject: from Fama’s unflinching faith in the full rationality of economic action to Shiller’s recognition of the influence of non-rational and irrational factors upon human economic determinations, passing through Hansen’s acceptance of “distorted beliefs” as explanations of some otherwise inconsistent economic behaviors empirically observed.

The unresolved differences bear on the scientific status of contemporary macroeconomic analysis, especially since the crisis of 2007-09 has demonstrated the inadequacy of its underlying microfoundations. Particular attention has since been placed by economists on what they really know about asset bubbles, as these cannot be endogenized within purely rational choice models, and policymakers have re-considered whether bubbles can (or should) be managed in the public interest.

Deposit Insurance and the Global Financial Crisis

Asli Demirgüç-Kunt's picture

How does deposit insurance affect bank stability?  This is a question that has been around for a while but has come up again after the global financial crisis.  In response to the crisis, a number of countries substantially increased the coverage of their safety nets in order to restore market confidence and to avert potential contagious runs on their banking sectors.  Critiques worry that such actions are likely to further undermine market discipline, causing more instability down the line. My earlier research on this issue suggests that on average deposit insurance can exacerbate moral hazard problems in bank lending, making systems more fragile.  In other words, particularly in institutionally under-developed countries, banks have a tendency to exploit the availability of insured deposits and increase their risk, making the financial system more crises prone.  This is ironic since deposit insurance is supposed to make the systems more stable, not less.

But what if the impact of deposit insurance on stability varies depending on the economic conditions? Does deposit insurance help stabilize banking systems by enhancing depositor confidence during turbulent times?

How Can Finance Influence Productivity of Agricultural Firms?

Claudia Ruiz's picture

Worldwide, agriculture is the main source of income among the rural poor. Relative to other sectors, agricultural growth can reduce rural poverty rates faster and more effectively (Christiaensen and others 2011). As discussed in the GFDR 2014, one relevant vehicle to achieve growth in the sector may be finance.

Farmers’ decisions to invest and to produce are closely influenced by access to financial instruments. If appropriate risk mitigation products are lacking, or if available financial instruments do not match farmers’ needs, farmers may be discouraged to adopt better technologies, to purchase agricultural inputs, or to make other decisions that can improve the efficiency of their businesses. Improving access to finance can increase farmers’ investment choices and provide them with more effective tools to manage risks (Karlan and others 2012a, Cai and others 2009).

Does increased access to financial services promote microenterprise growth?

Miriam Bruhn's picture

Microcredit has become a buzzword over the past couple of decades and many have hoped that small loans would help microenterprises grow and raise the incomes of their owners. Recently, a number of rigorous studies have measured the effect of credit on microenterprises. The results paint a nuanced picture; with most studies showing no strong impact on microenterprise growth (see Chapter 3 of the World Bank Group’s Global Financial Development Report 2014 for a summary of these findings).

Researches have uncovered several reasons why microcredit may not lead to the expected increase in firm growth. For example, to mitigate default risk, microloans often have joint liability. However, joint liability may discourage investment because group members have to pay more if a fellow borrower makes a risky investment that goes bad, but they do not enjoy a share of the profits if the investment yields returns. Also, looking beyond microcredit, recent studies suggest that providing other financial instruments, such as savings products and microinsurance, can spur microenterprise investment and growth.

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