RESTRICTED S/FIN/W/88/Add.1 13 June 2016 (16-3234) Page: 1/18 Committee on Trade in Financial Services FINANCIAL INCLUSION AND THE GATS - BARRIERS TO FINANCIAL INCLUSION AND TRADE IN SERVICES - NOTE BY THE SECRETARIAT1 Addendum This Note has been prepared at the request of the Committee on Trade in Financial Services, to serve as background information for discussions on the trade-related aspects of financial inclusion. _______________ 1 INTRODUCTION 1.1. This Addendum has been prepared at the request of Members, in order to further discuss barriers to financial inclusion (an issue referred to in paragraph 4.1 of the previous Note (S/FIN/W/88)). In keeping with the Committee's focus, and in light of Members' comments, the Note discusses the barriers to financial inclusion from a trade perspective, exploring not only the nature of those barriers but also the role that trade – and trade policy – in financial services plays in overcoming such barriers. Before discussing the barriers to financial inclusion, it is worth recalling that, as explained in Section 2 of the previous Note, financial inclusion is a complex and multi-dimensional issue, and as such it has acquired a multitude of meanings. A distinction is usually drawn between access to and use of financial services, the former being primarily about the supply of services, whereas the latter is basically determined by demand (World Bank, 2014). However, although it is possible to distinguish between access to and use of financial services, both concepts are closely related and policy makers tend to adopt a broad definition of financial inclusion that focuses on its various dimensions, notably access to financial services, use of financial services, and quality of financial services. In keeping with the rest of the Note, a broad approach to financial inclusion is adopted, looking into both the access to and use of formal financial services. 1.2. Financial inclusion is not only about access to credit, but involves the availability and use of a wide range of financial services, including deposit-taking services, payment and money transmission services, insurance services, advisory services, and other auxiliary and intermediary services. Our understanding of financial inclusion is also broad in terms of the channels used to supply those services. We consider that banks' branches, banks' agents (e.g. retailers), automated teller machines (ATMs), point-of-sale (POS) terminals, mobile phones, as well as the Internet, are only different ways to access financial services, and not different products per se. 2 THE NATURE OF BARRIERS TO FINANCIAL INCLUSION 2.1. Ideally, inclusive financial markets allow the poor to access and make use of a full range of financial services. In such markets, consumers know their financial needs, have information on and understand the financial services and products being offered, and may access financial service suppliers in a reasonable, timely and cost-effective manner. At the same time, financial service 1 This document has been prepared under the Secretariat's own responsibility and is without prejudice to the positions of Members or to their rights and obligations under the WTO. S/FIN/W/88/Add.1 - 2 - suppliers understand the characteristics and potential of poor and low-income clients, and offer services that meet their needs and are affordable for them. In addition, financial service suppliers have viable business models, and dispose of a reasonably extended delivery network. However, specific constraints prevent an efficient match between demand and supply of financial services, limiting the access to and the use of financial services (CGAP, 2015). 2.2. Asymmetric information (which leads to adverse selection and moral hazard problems) and high transaction costs are pervasive in certain environments, and can generate first-mover dilemmas and coordination problems that prevent the expansion of financial services to all segments of the population. For example, a bank or mobile network operator (MNO) investing in a technology or a business model that would allow it to reach underserved customers has to bear significant risks and the initial costs of introducing new technology and creating an agent network from scratch. If the initiative fails, the innovator may have to bear significant sunk costs. Even if the project is initially successful, the advantages from being a first mover into a market may be eroded by competitors who take advantage of the former's initial spending (e.g. agent training, infrastructure and awareness campaigns) to build their own services offering. Problems of this sort can lead to underinvestment in innovations that could potentially mitigate asymmetric information and high transaction costs. (World Bank, 2014). 2.3. Barriers to financial inclusion are of a very diverse nature, and may arise from demand factors, supply factors, inadequate regulatory frameworks, institutional weaknesses, and deficient infrastructure (Staschen and Nelson, 2013). Moreover, although each of these contributors may be isolated for the purposes of the analysis, they are usually interconnected and reinforce each other. 2.1 Demand-side barriers 2.4. Demand-side barriers restrict the capacity or willingness of individuals to access and use available services and products. The main factors hindering demand for financial services include lack of income, culture, religious beliefs, absence of formal identification systems, low levels of financial literacy, distrust of financial institutions, and lack of necessary documentation and/or collateral to support financial transactions. 2.5. The World Bank's Global Financial Inclusion (Global Findex)2 database provides, for example, information on self-reported barriers to bank account ownership – a basic indicator of the degree of financial inclusion or exclusion (Demirgüç-Kunt et al, 2015).3 Globally, the most common reason not to own a bank account is lack of enough money to use the account: 59% of adults without an account considered this as a reason for being unbanked, though only 16% cited it as the sole reason (Figure 1). 4 Lack of enough money is the most commonly reported barrier to account ownership not only globally but also in almost all developing regions, the only exception being Europe and Central Asia, where the lack of need for an account turned out to be the most commonly cited reason, reported by 55 % of those without an account at a financial institution, followed by lack of money, cited by 51 per cent of respondents. It is not only the lack of income that hinders financial services demand, but also income volatility. Indeed, many times, an increase in interest rates responds to the bank's inability to measure the volatility of repayments, according to the income flows for each type of client. (ABSA, 2012). In addition, lack of regular income usually implies lack of necessary documentation (e.g. salary slip) to access basic financial services, such as bank accounts and credit. 2.6. At the global level, the following most common reasons reported for not having a bank account are that the respondent has no need for an account (because all transactions are carried out in cash) and that a family member already has one, both cited by 30% of respondents to the Global Findex survey. Interestingly, only 4% and 7% of respondents cited having no need for an 2 The Global Financial Inclusion (Global Findex) database provides in-depth data showing how people save, borrow, make payments, and manage risk. It is the world’s most comprehensive set of data providing consistent measures of people's use of financial services across economies and over time. The database was launched in 2011, and further updated in 2014. It provides more than 100 indicators, including by gender, age group, and household income. The indicators are based on interviews with about 150,000 nationally representative and randomly selected adults age 15 and above in more than 140 economies. 3 Respondents were allowed to give multiple reasons for not having an account at a formal financial institution, and they cited 2.1 on average (Demirgüç-Kunt et al., 2015). 4 The following paragraphs draw heavily on the information on self-reported barriers in Demirgüç-Kunt et al., 2015). S/FIN/W/88/Add.1 - 3 - account and/or that a family member already owned an account, as the sole reasons for not having one. This may suggest that, in fact, voluntary financial exclusion does not exist, and that once other barriers to account ownership are reduced – such as the cost of service and the distance from financial institutions – these respondents might be interested in having an account (Demirgüç-Kunt et al., 2015). 2.7. Apart from lack of enough money, self-reported reasons for not having an account at a financial institution vary widely across economies and regions. In Asia and the Pacific, the second most common reason, cited by about 35% of adults without an account, is that a family member already has one; while in Sub-Saharan Africa distance to financial institutions is the second most common reason, cited by 27% of those without an account. 2.8. In the Middle East, however, 41% of adults without an account said that they cannot obtain one, probably due to prohibitive costs and documentation requirements for opening an account. However, virtually no one reported this as the only reason for not having an account. This suggests again that if the costs or the documentation requirements were reduced, respondents might find it easier to own an account. 2.9. In Latin America and the Caribbean the two most commonly cited reasons for not having an account, after lack of enough money, are that accounts are too expensive and that the respondent has no need for an account. But almost no one cited either of these reasons as the only one. This again may suggest that as barriers are eliminated, those who are now without an account are likely to be interested in having one.