In the first part of this interview, Rosy Khanna, who heads the financial institutions practice in Asia for the International Finance Corporation, a member of the World Bank Group that’s focused on private-sector development in less developed countries, talked about the importance of growing digitalisation in financial services in Asia’s context, its role in financial inclusion and how technology is supporting cross-border remittances, a lifeblood for many of the region’s economies.
In this second part, Ms Khanna talks about the importance of financial inclusion, the role of digital payments in supporting the post-COVID economic recovery, and also some of the emerging risks in this ecosystem that must be managed.
Unravel: There is a point of view that many economies, by focusing squarely on financial inclusion, are ‘putting the cart before the horse’ by not focusing on other important aspects of development such as education or healthcare, for instance. What are your thoughts?
Rosy Khanna: A growing body of evidence suggests that access to financial services can reduce poverty, raise income and promote economic growth. This is based on the assumption that increasing access to finance will lead to increased consumption, which will increase development in areas such as education and healthcare. However, in some cases, these conclusions remain tenuous. In a survey of the literature on the relationship between financial inclusion and welfare, the World Bank concluded that “considerable evidence indicates that the poor benefit enormously from basic payments, savings and insurance services. But dozens of microcredit experiments paint a mixed picture about the development benefits of microfinance projects targeted at particular groups in the population.” Therefore, while it may be safe to conclude that financial inclusion has a direct, positive effect on other important aspects of development, the results from the microfinance sector suggest some caution should be exercised in this area.
Another 2020 ADB study reveals a correlation between financial literacy and fintech adoption in Vietnam. Out of 1,058 households surveyed in Vietnam, those who use fintech services had higher levels of financial literacy than those who did not use any fintech services. This shows that the focus on financial inclusion is not misplaced and does contribute to the overall development of an economy.
Unravel: How important are digital payments in supporting the post-COVID economic recovery in the region?
Ms Khanna: Digital payments have increased significantly since the onset of COVID-19 and will play a big role in the global economic recovery, as they allow easier flows of funds for multiple uses, such as government-to-person payments. Digital payment technology is also redefining how people live and will live in the current and post-pandemic world. For instance, online shopping has become a necessity during lockdowns while physical stores have been closed. Even after the restrictions are lifted, e-commerce is likely to grow in popularity as consumers become more aware of the convenience of online shopping. E-commerce requires e-payment, and the post-COVID-19 growth of e-commerce will thus result in the growth of digital payments.
In the Philippines and beyond we are seeing the emergence of the “social media micro-SME”. This refers to people who lost jobs during COVID-19 but have migrated to small online businesses. It is possible that an entirely new category of micro-SME customer is evolving, and with it the manner in which institutions transact with them.
In the Philippines, the central bank aims to increase the use of electronic payments to 50% of the total volume of financial transactions by 2023. Digital payments have soared in the Philippines during the pandemic, partly because the government imposed one of the world’s longest lockdowns.
COVID-19 is likely to lead to a large and lasting expansion of digital payments. To seamlessly transition to digital payments, which will be integral to a post-COVID-19 digital world, Asian economies must strengthen their regulatory frameworks, and invest in digital networks and infrastructure, such as those that enable the use of digital IDs, e-Kyc, etc. Robust identification systems backed by a certification authority, reliable internet networks, and trustworthy financial services are prerequisites for contactless payment systems.
Unravel: What explains the rapid strides being witnessed in Southeast Asia in this space?
Ms Khanna: Southeast Asia’s high smartphone penetration and engagement makes customer adoption of services including e-commerce and ride hailing easier, and these services provide opportunities for embedded financial services. Also, regulatory policies across the region are becoming more open, with governments supporting the development of digital financial services. In fact, supportive and consistent regulations and government policies will be the biggest swing factor in the development of digital financial services throughout the region.
Consider Singapore and Thailand’s regulatory sandbox, which allows companies to test innovations in a controlled environment under regulators’ supervision. Singapore and Thailand established standardised QR codes for mobile payments to increase the efficiency of financial services. In addition, the Monetary Authority of Singapore, along with IFC and the ASEAN Bankers Association, established APIX, an industry sandbox to provide a cloud-based testing environment between banks and fintechs. Also, Indonesia introduced a National Strategy for Inclusive Finance, which is aimed at developing the country’s economy by expanding the market for banking services. Vietnam has also announced similar intentions.
Among various services, key inflection points will occur over the next five years. Digital payments are forecast to exceed $1 trillion in transaction value by 2025, according to research by Bain & Company in conjunction with Google and Temasek. Digital payments and remittances are experiencing rapid adoption among consumers, similar to what was seen in other digitally enabled industries, including e-commerce, ride hailing and online media. Other digital financial services—lending, investment and insurance—are still emerging, but each are expected to grow by more than 20% annually through 2025.
Digital financial services could generate about $38 billion in annual revenue by 2025, with lending making up about half of that opportunity, led by innovations in consumer lending and SME working-capital financing.
Asia has embraced technology quicker and more enthusiastically than any other region in the world, and the number of internet users in the region has grown more than it has elsewhere. Asia is now home to half the world’s internet users, and in emerging Asia, mobile is often the only touchpoint with the internet. This is how these consumers access digital public services, news, commerce, banking and social media. All this, coupled with an enabling environment supported by regulators and institutions, has led to rapid strides in digital in the region.
Unravel: We’re witnessing a surge in the number of fintechs and other financial institutions, often without sufficient checks. What are some of the key risks brewing in the ecosystem?
Ms Khanna: The COVID-19 pandemic has amplified the urgency of using fintechs to keep financial systems functioning and keep people safe at a time of social distancing, falling demand, reduced input supply, a tightening of credit conditions and rising uncertainty. At the same time, these new technologies must be designed and implemented carefully to manage their risks, particularly for the poor and vulnerable, so as not to exacerbate the challenges posed by this crisis. There is also an urgent need for investment in the prerequisites for developing digital financial services, such as mobile broadband infrastructure—including in remote areas—expansion of digital identification, and open application programming interfaces. These investments need to be complemented with the relevant legal and regulatory frameworks that allow people to benefit from digital financial services and ensure a competitive ecosystem. Greater attention needs to be given to data privacy, cybersecurity and the like in order to protect the consumer and the financial system.
Some of the areas that may warrant some concern as digital financial services grow, whether relating to fintechs or financial institutions, are:
Exclusion: Unequal access to infrastructure and technology increases the digital divide. Examples include lack of access to basic telecommunication and financial infrastructure, as well as affordable mobile devices and data plans. Women and the poor are often disproportionately disadvantaged.
Over-indebtedness: Evidence has emerged that digital credit has led to late repayments and defaults in Kenya and Tanzania, particularly in poorer segments of the population, which calls for a closer look at digital lending practices.
Discrimination: Digital financial services-linked decision-making tools such as credit scoring may not fully remove biases present in the underlying data, or in the mindset of the people that design these tools, for example, prejudices or discrimination against minority borrowers. This may result in unfair segmentation and inappropriate pricing.
Unfair practices: Digital financial services sometimes have limited electronic disclosure of terms and conditions, agent liability, effective recourse mechanisms, and safety of funds, and may be adopted by newcomers to financial services with little understanding and no face-to-face interaction with providers that might help ensure appropriateness of a product or service. This exposes consumers to abuse, fraud and operational failures, which reduces trust in digital financial services and undermines their adoption.
Data protection-related risks: Traditionally excluded customers may be more vulnerable to data privacy violations, identity theft and fraud because they lack alternatives. The potential for these risks to cause harm is greater where consumers have low levels of financial capability, as is more often the case for the poor.