What Makes Digital Banking Inclusive?

Banks no longer face the same limitations that prevented them from serving low-income customers 10 years ago. Digital banking has created new possibilities for reaching low-income customers. But are these digital banks really more inclusive? After all, just because digital banks can reach low-income customers doesn’t mean that they will. Initial evidence gathered by CGAP suggests that some digital banks are becoming more inclusive. Early evidence points to some specific ways in which they are reaching low-income customers with more useful and affordable services.

When CGAP first began investigating the digital banking ecosystem two years ago, we had little more than a hunch that when banking fuses with modern technology, it can result in solutions that benefit low-income customers. As we began consultations with stakeholders, we were increasingly asked, “But is there any evidence to substantiate your intuition?” We looked around and found only anecdotes and visionary statements that often seemed more like sales pitches. So, we decided to launch a study to see if we could find any actual evidence that digital banking advances financial inclusion.

We recently published the results of that study in “Inclusive Digital Banking: Emerging Markets Case Studies.” Of the digital banks that we analyzed, three stand out because they illustrate many of the traits shared by the banks that appear to be the most inclusive. Each represents a type of fully digital retail bank and uses digital technology to cater to mass-market customers, many of whom have low to middle incomes.

• TymeBank (South Africa) illustrates how a new entrant can use modern technology to design and distribute innovative products for excluded segments. Tyme has an equal number of male and female customers, and 50 percent of all TymeBank customers actively transact.
   
• Kotak 811 (India) illustrates the benefits and challenges of an incumbent bank creating a digital brand to improve customer digital experience and acquire a larger portion of the mass market. A majority of its customers fall within the lower bands of India’s middle-income segment.
   
• UnionBank (Philippines) illustrates the comprehensive digital overhaul of an incumbent with a vision of banking blended with e-commerce. Over 60 percent of its customers are in underserved segments, and almost 50 percent live outside urban areas.

There are several important features that make these and other digital banks inclusive:

• 

  Essential products. These banks cater to the most critical financial needs of their customers. TymeBank’s current product portfolio comprises a simple current and savings account, and the bank plans to launch a portfolio of consumer credit products. Similarly, Kotak 811 delivers a simple interest-bearing savings account to customers, 20 percent of whom are first-time account holders. TymeBank leadership has indicated that it is focused on developing products and solutions that cover 80 percent of the financial needs of clients.
   
• Data-driven understanding of clients. These digital banks also use advanced data collection and analytics techniques to customize products for their customers. UnionBank’s innovation arm, UBX, is developing an alternative credit risk assessment mechanism for its proprietary marketplace lending platform, SeekCap. This mechanism will be used to target underserved and excluded individuals who typically lack formal credit histories. UnionBank also has created a whole ecosystem comprising an e-commerce platform, payments gateway and cash-in/cash-out solutions to help small businesses participate in the fast-growing e-commerce space and to generate more data along the way.
   
• Innovative distribution models. Digital banks are combining in-person and digital customer engagement. For example, TymeBank partners with the largest network of retail stores in South Africa to on-board customers through a kiosk-based solution. These kiosks cost Tyme roughly 4 percent of what it would spend on a bank branch. UnionBank has digital-only branches that enable the bank to open accounts six times faster than it can at traditional branches. At the same time, to address  barriers to delivering financial services to rural customers, UnionBank has developed a rural distribution model. It has acquired City Savings Bank and leverages City's brick-and-mortar rural branches.
   
• Remote on-boarding. Remote and rapid on-boarding is the name of the game for digital banks. Remote on-boarding can be done much faster than on-boarding at bank branches. For example, UnionBank's  fully automated e-KYC solution takes just 5 minutes to on-board a customer, compared to the 15 minutes it takes to do so at a bank branch. Similarly, Kotak Mahindra Bank has integrated video-based KYC services into its remote account opening process.
   
• Competitive pricing. Digital banks lower operational costs by leveraging technology and alternative distribution channels. They pass on cost savings to customers in the form of lower prices for products and services. This makes services more affordable for low-income customers. A study by the Solidarity Research Institute finds that a Tyme customer who makes 12 transactions pays around 60 percent of what they would have to pay to South Africa’s second most affordable bank.

For all their promise, it is important to note that inclusive digital banks are not necessarily profitable yet. In most instances, their pathway to profitability depends on growing their lending business for individuals and micro-, small- and medium enterprises. Since digital banks have a license to intermediate retail deposits, they can secure access to cheap funding, create revenue streams independent from payment services and extend the customer value proposition. These features distinguish digital banks from mobile money providers and so-called neobanks (i.e., nonbank providers of account services).

More neobanks may seek to become digital banks for these reasons. One of the banks we analyze in our new report is Klar, a neobank in Mexico. Klar is not licensed as a bank but its management understands the need to offer credit as well as payment services. To do so, Klar runs two separate companies. One offers formal credit based on an innovative credit underwriting model that analyzes the purchase and behavioral patterns of debit card customers. The other offers payments services based on its fintech license. Customers get their payment, savings and credit needs covered and may not even notice that multiple entities are involved. But for Klar, this represents a complicated balancing act that involves operations, technology and compliance. This eventually may prompt Klar to seek a banking license and follow the trajectory of several European neobanks. Other neobanks should consider a similar path.

The inclusive features of the banks we studied cannot be generalized to every digital bank, nor do they conclusively prove the inclusivity and sustainability of the studied banks. But they do illustrate the potential for digital banks to advance financial inclusion in emerging economies with large excluded and underserved populations, a vibrant digital banking ecosystem and high penetration of internet and smartphones.

This is the first post in a new blog series called “Inclusive Digital Banking: Emerging Markets Case Studies.” The subsequent blog posts in this series will cover two enabling factors that are key for a thriving digital banking ecosystem but that also shape differences between the digital banks in our study: available technology and regulatory treatment. In the meantime, read more about the case studies in this working paper.