How Blockchain Can Help The World's Unbanked

The tech behind blockchain could be a solution for financial inclusion

Ramy Caspi
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Financial inclusion refers to the delivery of affordable and usable financial access for unbanked and underbanked people. There are approximately 2 billion individuals who lack financial access and an additional 1.5 billion individuals who are underserved by the financial service industry. These groups of people have to pay significantly higher costs (e.g., opportunity cost, travel cost, monetary costs) in order to use basic financial services. In the last decade, global companies from various industries have implemented projects and campaigns to solve the issue. Many financial institutions like the Bill & Melinda Gates Foundation have set a goal to help the world’s poorest regions improve their lives and build sustainable futures by connecting them to digitally-based financial services.

Financial institutions around the world find themselves continually barraged by external innovations they are often unable to absorb and internalize. The emergence of innovative digital financial technologies has challenged traditional players in the sector by demonstrating new ways to deliver value across the entire financial value chain. Blockchain, or distributed ledger technology, is just such a disruptive—and possibly game-changing—innovation. Emerging markets are in general characterized by low banking penetration, the exit of financial players from certain markets, strong demand for financial inclusion both from individual consumers and small businesses, high levels of mobile penetration, and less developed business infrastructure and financial sector incumbents. These conditions in combination can be a powerful catalyst for the adoption of blockchain-based financial solutions and can provide the basis for a technological leap forward and a boost to financial inclusion and growth

Distributed ledger technology, like Bitcoin’s blockchain, has the potential to transform cross-border payments, boost financial inclusion, and lessen the unintended consequences of anti-money laundering enforcement.

Inclusion isn’t simply a matter of opening the door to products such as microloans or insurance policies geared toward low-income families and individuals. Rather, inclusion means creating channels of financial support during times when people need it the most.

Banking on Distributed Ledger Technology: Can It Help Banks Address Financial Inclusion?

Access to financial services is an important policy goal. Households with access to financial services are able to withstand temporary financial hardship and build wealth, ultimately improving economic outcomes. Banking services, in particular, facilitate inclusion in the financial mainstream by enabling households to deposit and save income, make payments, and obtain credit while offering substantial consumer protections. Yet despite these benefits, according to the Center for Financial Services Innovation (CFSI), research shows there are 68 million un-banked and under-banked people in the US do not have a checking or savings account and are thus considered unbanked.

Policymakers and consumer advocates have suggested that financial technology (or “fintech”) may address the needs of these consumers. One particular innovation, distributed ledger technology (DLT), has been promoted as a solution given its potential to reduce costs and increase access points for consumers. By removing the need for a central authority through decentralizing records into a shared digital ledger, DLT could potentially lead to cheaper, faster financial transfers. To date, however, most analyses of DLT’s ability to provide financial services to underserved communities have focused on broad international case studies or nonbank financial institutions. Few researchers have connected the specific issues affecting unbanked consumers in the United States to the services DLT could provide. DLT is still in an early stage of development and deployment, yet it is widely thought to have the potential to deliver a new wave of innovation to the financial technology, or fintech, ecosystem by providing a ‘trustless’ distributed system to exchange value.

What is Blockchain?

Blockchain is a public ledger of transactions distributed among a large network of computers without a central authority. Transactions that occur within a given timeframe are validated and recorded as a “block” which is then added to the “chain” of past blocks of past transactions. Blockchain is probably best known as the technology that made bitcoin possible, and bitcoin remains the largest example of blockchain in action. But as a recent Harvard Business Review article put it, blockchain is to bitcoin as the internet is to email. TCP/IP, the basic communication language or protocol of the internet, started with a single use case: enabling email communications among developers of the ARPAnet (the 1970s era precursor to the internet). Just as the internet has evolved into uses infinitely more numerous and sophisticated than email, so too will blockchain find applications far beyond bitcoin.

For financial inclusion, blockchain provides a low-cost, high-speed system of record. Fintech start-ups are increasingly leveraging blockchain applications to tackle issues like the high cost of money transfers or lack of formal identification documents that disproportionately affect low-income people.

The opportunities of blockchain technologies have been discussed among trend-researchers for several years but just recently, the technology seems to have gained momentum.

A 2017 McKinsey survey found that the global banking industry is expected to spend $400 million on blockchain related projects by 2019. Some 70 percent of financial organizations are in the early stages of experimentation with the technology and most executives expect to see material impact in mainstreaming it in the next five years. A first rough estimate of limited applications, driven mostly from a cost reduction perspective, suggests significant value creation on the order of $70 to $85 billion.

Bitcoin, a cryptocurrency that emerged in 2009, provided the first widespread use of blockchain. Since then, the technology has been synonymous with digital currencies. Yet the early abuse of bitcoin by criminal enterprises may have hindered the development of blockchain. Many other digital currencies have since emerged, including ether, the crypto-currency token used on the Ethereum distributed applications platform, the closest challenger to Bitcoin.

Today a number of experiments are taking place in the financial industry that attempt to broaden the use of blockchain beyond its use as a digital fiat. These range from relatively straightforward solutions such as money transfers, to more complex financial instruments enabled by the introduction of ethereum and smart contracts, such as trade clearance and settlement

This is a really fascinating point in time for these technologies to emerge. We are living in an era of increasing distrust in globalization and in particular in the institutions which structure our global economy. Recently, there have been a lot of significant events pointing to the fact that the end-user do not have a lot of faith in the international economic system. Blockchains, because of their decentralized, inclusive and open ethos, provide a way to rebuild that trust by establishing accountability to the end user. So in an era of antiglobalisation, blockchain has a tremendous opportunity for people who care about maintaining an integrated world. But it also poses a big challenge, because it means we have to rethink the way our global institutions work. We have to rethink the extent to which we are actually willing and able to make those institutions answerable to the constituents they’re supposed to be serving. 

Kosta Peric deputy director of the Financial Services for the Poor initiative for the Bill & Melinda Gates Foundation said, “The very powerful thing about bitcoin in general and specially the technologies behind it, is they are essentially leapfrogging all the technology and providing a new system for processing these huge amounts of transactions for very small costs.”

Since blockchain is near the peak of the hype cycle, we need to be careful not to overstate its potential. But the technology is quite compelling in some areas of financial inclusion and human rights:

·       Immutability: confidence that transactions, identities, and ownership records have not been tampered with.  (Though with smaller private blockchains the confidence may be lower)

·       Trust: ability to trust transactions between unknown participants

·       Transparency: ability to inspect from a regulatory and individual perspective. However, private blockchains need to be designed to balance conflicting privacy and oversight objectives

Established financial institutions are more likely to use blockchain for intra-organizational projects intended to reduce organizational complexity, improve efficiency, and reduce costs. Banks and major financial institutions are working both collaboratively and independently to develop blockchain technology, as seen in the proliferation of global consortia.

Emerging markets, despite getting a later start on blockchain than the United States and Western Europe, have been catching up, with strong performances in 2016-17, in particular by Asia. And governments and regulators are taking notice, and trying to fashion appropriate responses.

Only with proper infrastructure can blockchain fintech solve real problems

Without reliable identifiers, the huge pool of metadata that blockchain fintech promises may be impossible to navigate. Global Legal Entity Identifier (GLEIF) is a system that provides an essential piece of infrastructure for the future economy; it helps to advance blockchain fintech to a stage where it can have meaningful benefits for society.

Without rules accepted by courts, there will always be a certain level of reluctance to embrace digitization. Formed in 1919 in the absence of a global system of rules to govern trade, the International Chamber of Commerce (ICC) created in 1936 an industry standard that would become known as the Incoterms rules, which has become accepted by courts all over the world.

We are in the same situation today as we were pre-1936 with respect to trade digitization. The ICC Banking Commission has a strong role to play in filling a void of acceptable rules.

The hype is fun and dreaming is important, but to catch up with reality we need to develop some basic infrastructure. Creating digital standards for trade, rules for digitization, and achieving global adoption of one harmonized legal identity for companies will create the infrastructure required to move blockchain fintech further.

It’s only that way that we will be able to use this technology to solve real problems in transparency and inclusion.