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Technology can help democratise financial services

Financial services updates

The writer is professor of financial economics at Imperial College London

The economic damage wrought by the pandemic has been partly masked by the extraordinary levels of support infused by governments worldwide. Come September, many pandemic relief measures will begin to wind down in both the US and the UK. This will expose the uneven impact of the pandemic, with lower-income and lower-wealth households worst affected. Wealth inequality, already a serious concern before the pandemic, is now even more extreme.

While in recent decades we have seen progress globally in shrinking the ranks of the extremely poor, there are large disparities of wealth within the world’s growing middle class — and enormous differences between the middle class and the very wealthy. During the pandemic, better-off households have widened their lead over poorer ones, partly because they have been able to save more. But high returns to long-term and risky investments, such as stocks and housing, have also benefited wealthy people who have easier access to risky financial markets and have been able to borrow at unprecedentedly low interest rates.

The privileged financial access of the wealthy is a persistent feature of globalisation. The disadvantage to poorer households can be substantial: in India, for example, the cost of suboptimal financial arrangements has been estimated at 10 per cent of the real annual income of a typical middle-class household.

One obvious problem is that the fixed cost of providing financial services makes small-scale investing and borrowing expensive. Many financial products assume stable streams of income and expenditure and do not meet the needs of poorer households who live with erratic cash flows. Poorer people also often lack the social networks and privileged education that is needed to learn about lucrative investment opportunities. They also lack the time to defend themselves against financial service providers who exploit customers’ points of weakness. 

The good news is that we now have an extraordinary opportunity to make change. Economies devastated by the pandemic are looking for ways to realise efficiencies and to unleash the entrepreneurial instincts of those locked down for more than a year. Technology has been the only way to communicate with others during this grim time, resulting in increased familiarity with tools that can lower the cost of basic financial services. And perhaps most importantly, there is now widespread awareness that social stability is threatened by inequality across the dimensions of wealth, race and gender.

What can we do to widen access to affordable and high-quality financial management? Household financial arrangements reflect the enormous diversity of their economic circumstances, so financial instruments must be customised. The challenge is to do that affordably, even at the small scale that poorer households need. Technology is a vital part of the solution, since it allows small transactions to be processed cheaply and can accommodate shifting circumstances such as variable income.

Technological evangelism has its limits, however. To build a healthy household financial system, technology must be regulated to encourage innovation while prohibiting exploitative or value-destroying behaviours such as credit-scoring algorithms that magnify existing biases, or trading by smartphone that encourages small investors to buy overpriced “meme” stocks.

With these caveats in mind, there is now a way to improve the lives of millions by providing cheap access to customised financial products. As an analogy, the establishment of national postal services opened up new possibilities for small-scale commerce in the 19th century by lowering costs. In a similar fashion, appropriately regulated technology can widen access to financial services in the 21st century.

John Campbell, professor of economics at Harvard university, contributed to this article

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