Md. Saifullah Azad, CERM :
A growing number of institutions both globally and nationally have adopted inclusiveness of un-banked people in banking arena as a policy priority. Various standard-setting bodies are increasingly involved towards greater inclusion of people through their must do agenda. Financial inclusiveness opens potential benefits to the safety, soundness and integrity of the financial system. This can also bring potential risks to service providers and customers alike as well as entail the transfer of well known risks to new players. Financial inclusiveness significantly increases macroeconomic growth, broadens access to credit. This sometime can compromise macro financial stability when any poor quality of banking supervision prevails in the financial system at any level. Thus, there are risks associated with financial inclusion program of banks and non-bank financial institutions in their endeavor to reach unserved and underserved customers due to lack of adequate prudential regulatory and supervisory approach.
Financial inclusiveness refers to access to financial services which relates to the ability of firms and households to use financial products and services, given in particular the constraints of time and distance. Common elements of financial inclusion include universal access to a wide range of financial services at a reasonable cost. In financial inclusion relevant measures include the proximity of access points, the variety of access channels such as branches, ATM and POS networks, agent banking, mobile banking etc as well as socio-economic barriers limiting these uses. In a broader dimension, the pricing and other terms and conditions of financial products and services can also be relevant factors limiting the scope for access to financial services for segregated groups.
To mitigate the risk extensive exposure regulators and policymakers have taken a variety of steps to support financial inclusion at both the national and international level. Many of them have also sought to enhance financial literacy, while others have committed to achieving numerical inclusion targets. Measures are being taken in many countries to improve financial literacy as more households join the formal financial system. Financial education can help consumers to manage their financial risks by ensuring that they can better determine their capacity to spend, save and borrow, as well as choose suitable financial services. For instance, Bangladesh Bank, the Central Bank of Bangladesh has an in-house centre integrated with its main website that provides information about the financial services available to small and medium-sized enterprises, students, bankers, general public and other stakeholders. Some national policymakers have committed to achieving financial inclusion targets. For example, internationally over sixty central banks, plus public sector institutions from more than ninety countries are part of the Alliance for Financial Inclusion (AFI), a member-driven peer learning network. Some have agreed to quantifiable goals by signing the Maya Declaration which is an initiative to unlock the economic and social potential of the two billion unbanked population through greater financial inclusion. There are many positive impacts of financial inclusion and financial development more generally, on long-term economic growth and poverty reduction, and thus on the macroeconomic environment. Access to appropriate financial instruments may allow the poor or otherwise disadvantaged to invest in physical assets and education, reducing income inequality and contributing to economic growth.
Inclusive banking encourages consumers to move their savings away from physical assets and cash into deposits which may have implications for monetary policy operations and the role of intermediate policy targets. Financially excluded farmers can trade livestock or other income generating assets or they can adjust how much they work in response to shocks. Hence, as for borrowing, friends and family can act as important lenders in place of banks. However, access to the formal financial system does facilitate consumption smoothing at remarkable level. Financial stability too may be affected, since the composition of savers and borrowers is altered. Broader base of depositors and more diversified lending could contribute to financial stability. On the other hand, greater financial access may increase financial risks if it results from rapid credit growth or the expansion of relatively unregulated parts of the financial system.
Unregulated and under regulated areas of the finance flow also another risk area which advances in financial inclusion reflecting growth by institutions. Banks’ attempts to reduce the overall riskiness of their business i.e. de-risking, or minimize regulatory compliance costs also contribute significantly. Also small unregulated institutions may pose little threat to financial stability. Their growth momentum and systematic risk prevail side by side. Microfinance institutions account for a disproportionate share of increased financial inclusion in some countries, highlighting the need for supervisors to identify and measure risks that are specific to this sector. Hence, financially excluded households lack a financial history. So, the absence of a verifiable track record may be especially prevalent where personal identification systems are weak. There are bound to be speed limits to banks’ ability to absorb new customers without seeing deterioration in credit quality, owing to limits in screening capacity. Empirical analysis shows that greater financial inclusion due primarily to increased access to credit could contribute to financial excesses in the economy where variations between structural financial deepening, leading to a widening pool of borrowers, and an unsustainable lending boom that sees a smaller number of borrowers amassing large debts are pertinent. In fact, both phenomena could occur side by side. However, it is possible to nurture increased financial inclusion without a large increase in aggregate credit. For low-income populations, for instance, the most pressing financial needs may consist in having reliable savings and payment instruments rather than credit.
Stakeholders should have a comprehensive risk management process as well as effective Board and senior management oversight to identify, measure, evaluate, monitor, report and control or mitigate all material risks on a timely basis related to the tools and techniques to financial inclusion. They also need to assess the adequacy of their capital and liquidity in relation to their risk profile and market and macroeconomic conditions and also to development and review of contingency arrangements which take into consideration the specific circumstances of the service providers. Thus, the risk management process will be commensurate with the risk profile and systemic importance of the institutions. The financial institutions will systematically review the required procedure and policies while introducing new products or services or delivery channels, and also adjust their expectation of risk management processes for Strategic Business Units (SBU)/ branches/service points targeting unserved and underserved customers as required.
Main risk management challenges faced by financial institutions targeting unserved and underserved customers may relate to the lack of a comprehensive view of risks in a fast changing environment, unavailability of qualified professionals in respective areas and deficient management information systems. The banks should have proper policies and procedures in place as well as specialized knowledge of the specific dynamics of assets and liabilities in targeting underserved and unserved customers, particularly traditional microlending/ microfinance and the nature, structure and behaviour of funding sources. Traditional microfinance providers face the potential for rapid deterioration of capital in the case of loan defaults due to overreliance on their loan portfolio as their most important source of revenue. Thus, liquidity risk management need to focus on comprehensively measuring and forecasting cash flows and maintaining an adequate minimum liquidity cushion for business-as-usual and stressed situations, taking into account the likely behavioral responses of relevant counter parties. Banks must have adequate “risk-based approach” policies and processes including strict customer due diligence (CDD) rules to promote high ethical and professional standards in the financial sector and prevent the bank from being used, intentionally or unintentionally, for criminal activities. Increased financial inclusion could be beneficial for financial stability as well as the financial wellbeing of the people, particularly for low income group. But these strategies related to inclusion of unbanked people in the banking arena may be sensitive to the nature of the improved financial access. Too strong a focus on improving access to credit could increase risks, if it leads to deterioration in credit quality/exposure at default or too rapid growth in unregulated parts of the financial system as well as shortage of proper integrated policy at global and national level.
Finally, all interested parties need to collaborate and cooperate with each other for further development of inclusive banking ensuring compliance through adopting risk mitigation strategies, policies, programs and procedures in proper place for a balanced money market and fiscal development.
The writer, a banker by profession is a Certified Expert in Risk Management (CERM) from Frankfurt School of Finance, Germany. The views expressed in the article are the writer’s own and not necessarily the organization he represents. Email: [email protected]
A growing number of institutions both globally and nationally have adopted inclusiveness of un-banked people in banking arena as a policy priority. Various standard-setting bodies are increasingly involved towards greater inclusion of people through their must do agenda. Financial inclusiveness opens potential benefits to the safety, soundness and integrity of the financial system. This can also bring potential risks to service providers and customers alike as well as entail the transfer of well known risks to new players. Financial inclusiveness significantly increases macroeconomic growth, broadens access to credit. This sometime can compromise macro financial stability when any poor quality of banking supervision prevails in the financial system at any level. Thus, there are risks associated with financial inclusion program of banks and non-bank financial institutions in their endeavor to reach unserved and underserved customers due to lack of adequate prudential regulatory and supervisory approach.
Financial inclusiveness refers to access to financial services which relates to the ability of firms and households to use financial products and services, given in particular the constraints of time and distance. Common elements of financial inclusion include universal access to a wide range of financial services at a reasonable cost. In financial inclusion relevant measures include the proximity of access points, the variety of access channels such as branches, ATM and POS networks, agent banking, mobile banking etc as well as socio-economic barriers limiting these uses. In a broader dimension, the pricing and other terms and conditions of financial products and services can also be relevant factors limiting the scope for access to financial services for segregated groups.
To mitigate the risk extensive exposure regulators and policymakers have taken a variety of steps to support financial inclusion at both the national and international level. Many of them have also sought to enhance financial literacy, while others have committed to achieving numerical inclusion targets. Measures are being taken in many countries to improve financial literacy as more households join the formal financial system. Financial education can help consumers to manage their financial risks by ensuring that they can better determine their capacity to spend, save and borrow, as well as choose suitable financial services. For instance, Bangladesh Bank, the Central Bank of Bangladesh has an in-house centre integrated with its main website that provides information about the financial services available to small and medium-sized enterprises, students, bankers, general public and other stakeholders. Some national policymakers have committed to achieving financial inclusion targets. For example, internationally over sixty central banks, plus public sector institutions from more than ninety countries are part of the Alliance for Financial Inclusion (AFI), a member-driven peer learning network. Some have agreed to quantifiable goals by signing the Maya Declaration which is an initiative to unlock the economic and social potential of the two billion unbanked population through greater financial inclusion. There are many positive impacts of financial inclusion and financial development more generally, on long-term economic growth and poverty reduction, and thus on the macroeconomic environment. Access to appropriate financial instruments may allow the poor or otherwise disadvantaged to invest in physical assets and education, reducing income inequality and contributing to economic growth.
Inclusive banking encourages consumers to move their savings away from physical assets and cash into deposits which may have implications for monetary policy operations and the role of intermediate policy targets. Financially excluded farmers can trade livestock or other income generating assets or they can adjust how much they work in response to shocks. Hence, as for borrowing, friends and family can act as important lenders in place of banks. However, access to the formal financial system does facilitate consumption smoothing at remarkable level. Financial stability too may be affected, since the composition of savers and borrowers is altered. Broader base of depositors and more diversified lending could contribute to financial stability. On the other hand, greater financial access may increase financial risks if it results from rapid credit growth or the expansion of relatively unregulated parts of the financial system.
Unregulated and under regulated areas of the finance flow also another risk area which advances in financial inclusion reflecting growth by institutions. Banks’ attempts to reduce the overall riskiness of their business i.e. de-risking, or minimize regulatory compliance costs also contribute significantly. Also small unregulated institutions may pose little threat to financial stability. Their growth momentum and systematic risk prevail side by side. Microfinance institutions account for a disproportionate share of increased financial inclusion in some countries, highlighting the need for supervisors to identify and measure risks that are specific to this sector. Hence, financially excluded households lack a financial history. So, the absence of a verifiable track record may be especially prevalent where personal identification systems are weak. There are bound to be speed limits to banks’ ability to absorb new customers without seeing deterioration in credit quality, owing to limits in screening capacity. Empirical analysis shows that greater financial inclusion due primarily to increased access to credit could contribute to financial excesses in the economy where variations between structural financial deepening, leading to a widening pool of borrowers, and an unsustainable lending boom that sees a smaller number of borrowers amassing large debts are pertinent. In fact, both phenomena could occur side by side. However, it is possible to nurture increased financial inclusion without a large increase in aggregate credit. For low-income populations, for instance, the most pressing financial needs may consist in having reliable savings and payment instruments rather than credit.
Stakeholders should have a comprehensive risk management process as well as effective Board and senior management oversight to identify, measure, evaluate, monitor, report and control or mitigate all material risks on a timely basis related to the tools and techniques to financial inclusion. They also need to assess the adequacy of their capital and liquidity in relation to their risk profile and market and macroeconomic conditions and also to development and review of contingency arrangements which take into consideration the specific circumstances of the service providers. Thus, the risk management process will be commensurate with the risk profile and systemic importance of the institutions. The financial institutions will systematically review the required procedure and policies while introducing new products or services or delivery channels, and also adjust their expectation of risk management processes for Strategic Business Units (SBU)/ branches/service points targeting unserved and underserved customers as required.
Main risk management challenges faced by financial institutions targeting unserved and underserved customers may relate to the lack of a comprehensive view of risks in a fast changing environment, unavailability of qualified professionals in respective areas and deficient management information systems. The banks should have proper policies and procedures in place as well as specialized knowledge of the specific dynamics of assets and liabilities in targeting underserved and unserved customers, particularly traditional microlending/ microfinance and the nature, structure and behaviour of funding sources. Traditional microfinance providers face the potential for rapid deterioration of capital in the case of loan defaults due to overreliance on their loan portfolio as their most important source of revenue. Thus, liquidity risk management need to focus on comprehensively measuring and forecasting cash flows and maintaining an adequate minimum liquidity cushion for business-as-usual and stressed situations, taking into account the likely behavioral responses of relevant counter parties. Banks must have adequate “risk-based approach” policies and processes including strict customer due diligence (CDD) rules to promote high ethical and professional standards in the financial sector and prevent the bank from being used, intentionally or unintentionally, for criminal activities. Increased financial inclusion could be beneficial for financial stability as well as the financial wellbeing of the people, particularly for low income group. But these strategies related to inclusion of unbanked people in the banking arena may be sensitive to the nature of the improved financial access. Too strong a focus on improving access to credit could increase risks, if it leads to deterioration in credit quality/exposure at default or too rapid growth in unregulated parts of the financial system as well as shortage of proper integrated policy at global and national level.
Finally, all interested parties need to collaborate and cooperate with each other for further development of inclusive banking ensuring compliance through adopting risk mitigation strategies, policies, programs and procedures in proper place for a balanced money market and fiscal development.
The writer, a banker by profession is a Certified Expert in Risk Management (CERM) from Frankfurt School of Finance, Germany. The views expressed in the article are the writer’s own and not necessarily the organization he represents. Email: [email protected]
