Editor's Note: The following post was submitted jointly by Jake Kendall and Ignacio Mas of the Bill and Melinda Gates Foundation.
At the Financial Services for the Poor team at the Bill & Melinda Gates Foundation we have made a deliberate choice to focus on promoting savings (you can read about our strategy here). We think that saving in a formal, prudentially regulated financial institution is a basic option that everyone should have. Having a safe place to save allows people to manage what little they have more effectively and to self-fund life-improving or productivity-enhancing investments without paying the high interest rates associated with small loans. Accessing other people’s money through credit may not be right for everyone, but making the most out of your own income surely is. From a donor perspective, we need to move beyond microcredit and support the development of broader markets. In fact, too much focus on microcredit risks tilting the incentives of local financial intermediaries to funding their credit portfolio from external soft funds rather than via mobilizing local deposits.
As I go around the world talking up these issues, I am struck by how often I need to justify the value of savings for poor people intellectually. Sure, we should do more to demonstrate these benefits with actual data, and we are funding a bunch of studies in this regard. But why is the notion so counter-intuitive for many people? I would trace that to two misconceptions and two fears.
Misconception #1: Poor people don’t save.
They do, just not often in formal financial institutions. Poor people’s income is not only small but often irregular (e.g. small-holder farmers with seasonal income, or day laborers without guaranteed employment). Occasionally they face large shocks which can easily overwhelm their means, arising from entirely predictable lifecycle events (marriage, death) or unpredictable but not altogether unforeseeable occurrences (accident, illness, drought). Savings help them maintain consumption and plan certain investments in the face of erratic income streams and occasional disruptive events. There is a broad base of empirical evidence that this does happen: we can observe the prevalence of informal savings groups and deposit collections in many countries; financial diaries of poor households show that the marginal propensity to consume out of current income is often less than one; and people report wanting a bank account or formal savings arrangement when asked in surveys. The book Portfolios of the Poor documents the many ways in which poor people manage what little they have in order to survive on less than $2 per day. The question is not so much whether poor people save, but rather why they are not saving in formal institutions.
Misconception #2: If the poor are saving, that means they are not investing in their microenterprises, and that limits their ability to escape poverty.
The fallacy here is to view savings as an end in itself rather than as a means to an end. In developed countries, saving is often thought of as a nest egg for a broad purpose such as retirement, while credit is thought of as a tool geared toward specific short- to medium-term needs like purchasing a flat screen TV. However, because they often lack easy access to credit, poor people often save for a specific short term purpose: to provide for food tomorrow, to buy a bicycle, to pay school fees, to prepare for a daughter’s wedding, to build assets to pay for an eventual funeral—or indeed to invest in a family business. Savings and credit are alternative paths to setting aside small daily or weekly sums to fund a larger expenditure or investment. The differences are in timing (with credit you may make the expenditure or investment faster) and cost (with savings it will be a lot cheaper). If you believe microentrepreneurship can lift large numbers of people out of poverty, imagine if they could do that while retaining the full value of their efforts because they don’t need to pay onerous terms to credit suppliers.
Fear #1: Raising local savings is a way of taking resources from the poor and their communities in order to invest elsewhere.
This certainly may happen, but it may not be altogether a bad thing. The poor are still better off if bank accounts give them the option of taking their savings out from unproductive assets (cash under the mattress) or low-return assets (a chicken in the backyard) and putting them into higher-yielding bank savings, even if the capital is being used outside of their community in the meantime. Since they are likely to be saving for a shorter- or medium-term purpose, they will get their money back from the bank when they are ready to invest their funds in their microenterprise or to build household assets. In the meantime, the saved bank balances might be used by enterprises to create employment, which serves to boost the income of local populations, in turn bolstering their savings opportunities. Access to finance thus benefits poor people in multiple direct and indirect ways, and a strict accounting of dollars saved and loaned to poor people does an inadequate job of capturing the net welfare effect. Of course, in countries where the banking system is controlled by a few powerful groups that use their banks primarily to fund themselves, this fear may be entirely founded. But this argues for banking sector reforms which prevent connected lending, rather than keeping the poor outside of the banking system.
Fear #2: Bank savings are not safe for poor people anyway.
Banks can and do go under and may perpetrate fraud. People may reveal their PIN codes to friends and family who then siphon off their accounts, or they may be assaulted at gunpoint and taken to an ATM to empty their accounts. These are real risks, which need to be addressed through proper prudential and consumer protection rules. We stand for safe savings, and our concern is to make sure that the banks serving the poor are no more risky than banks serving the affluent. But it strikes me as ironic when these concerns are voiced by richer people as an argument to keep poor people out of banking, when they themselves have not given up their bank accounts. Often these concerns express themselves more insidiously as an unwillingness to accept new or unfamiliar banking service delivery models geared to reach the poor, simply because the newness or unfamiliarity of these models brings to mind risks and consumer protection concerns.
We need to put together a compelling evidence base that shatters these myths, and we are working towards that with a range of research partners.
(Photo Caption: A line forms in front of a bank branch in Haiti)