&gt; Posted by Dr. Katharine Kemp, Research Fellow, UNSW Digital Financial Services Regulation Project

The following post was <a href="http://www.ifmr.co.in/blog/2017/08/22/big-data-financial-inclusion-and-privacy-for-the-poor/">originally published</a> on the IFMR blog. 

<img class="alignright wp-image-24028" src="https://centerforfinancialinclusionblog.files.wordpress.com/2017/08/thumb_a98e715cf75d4c2ca7eea8e88847d4ba.jpg" alt="" width="365" height="243" />Financial inclusion is not good in itself.

We value financial inclusion as a means to an end. We value financial inclusion because we believe it will increase the well-being, dignity and freedom of poor people and people living in remote areas, who have never had access to savings, insurance, credit and payment services.

It is therefore important to ensure that the way in which financial services are delivered to these people does not ultimately diminish their well-being, dignity and freedom. We already do this in a number of ways – for example, by ensuring providers do not make misrepresentations to consumers, or charge exploitative or hidden rates or fees. Consumers should also be protected from harms that result from data practices, which are tied to the provision of financial services.

Benefits of Big Data and Data-Driven Innovations for Financial Inclusion

“Big data” has become a fixture in any future-focused discussion. It refers to data captured in very large quantities, very rapidly, from numerous sources, where that data is of sufficient quality to be useful. The collected data is analysed, using increasingly sophisticated algorithms, in the hope of revealing new correlations and insights.

There is no doubt that big data analytics and other data-driven innovations can be a critical means of <a href="http://www.pc.gov.au/inquiries/completed/data-access/report" target="_blank" rel="noopener noreferrer">improving the health, prosperity and security of our societies</a>. In financial services, new data practices have allowed providers to serve customers who are poor and those living in remote areas in new and better ways, including by permitting providers to:
<ul>
 	<li>Extend credit to consumers who previously had to rely on expensive and sometimes exploitative informal credit, if any, because they had no formal credit history;</li>
 	<li>Identify customers who lack formal identification documents;</li>
 	<li>Design new products to fit the actual needs and realities of consumers, based on their behaviour and demographic information; and</li>
 	<li>Enter new markets, increasing competition on price, quality and innovation.</li>
</ul>
But the collection, analysis and use of enormous pools of consumer data has also given rise to concerns for the protection of financial consumers’ data and privacy rights.

Potential Harms from Data-Driven Innovations

Providers now not only collect more information directly from customers, but may also track customers physically (using geo-location data from their mobile phones); track customers’ online browsing and purchases; and engage third parties to combine the provider’s detailed information on each customer with aggregated data from other sources about that customer, including their employment history, income, lifestyle, online and offline purchases, and social media activities.

Data-driven innovations create the risk of serious harms both for individuals and for society as a whole. At the individual level, these risks increase as more data is collected, linked, shared, and kept for longer periods, including the risk of:
<ul>
 	<li>Inaccurate and discriminatory conclusions about a person’s creditworthiness based on insufficiently tested or inappropriate algorithms;</li>
 	<li>Unanticipated aggregation of a person’s data from various sources to draw conclusions which may be used to manipulate that person’s behaviour, or adversely affect their prospects of obtaining employment or credit;</li>
 	<li>Identity theft and other fraudulent use of biometric data and other personal information;</li>
 	<li>Disclosure of personal and sensitive information to governments without transparent process and/or to governments which act without regard to the rule of law; and</li>
 	<li>Harassment and public humiliation through the publication of loan defaults and other personal information.</li>
</ul>
Many of these <a href="http://www.cgap.org/blog/making-case-privacy-poor" target="_blank" rel="noopener noreferrer">harms are known to have occurred</a> in various jurisdictions. The reality is that data practices can sometimes lead to the erosion of trust in new financial services and the exclusion of vulnerable consumers.

Even relatively well-meaning and law-abiding providers can cause harm. Firms may “segment” customers and “personalise” the prices or interest rates a particular consumer is charged, based on their location, movements, purchase history, friends and online habits. A person could, for example, be charged higher prices or rates based on the behaviour of their friends on social media.

Data practices may also increase the risk of harm to society as a whole. Decisions may be made to the detriment of entire groups or segments of people based on inferences drawn from big data, without the knowledge or consent of these groups. Pervasive surveillance, even the awareness of <a href="https://www.jstor.org/stable/23252125?seq=1#page_scan_tab_contents" target="_blank" rel="noopener noreferrer">surveillance, is known to pose threats</a> to freedom of thought, political activity and democracy itself, as individuals are denied the space to create, test and experiment unobserved.

These risks highlight the need for perspective and caution in the adoption of data-driven innovations, and the need for appropriate data protection regulation.

The Prevailing “Informed Consent” Approach to Data Privacy

Internationally, many data privacy standards and regulations are based, at least in part, on the <a href="https://www.priv.gc.ca/en/opc-actions-and-decisions/research/explore-privacy-research/2016/consent_201605/" target="_blank" rel="noopener noreferrer">“informed consent”</a> – or “notice” and “choice” – approach to informational privacy. This approach can be seen in the Fair Information Practice Principles that originated in the U.S. in the 1970s; the 1980 OECD Privacy Guidelines; the 1995 E.U. Data Protection Directive; and the Council of Europe Convention 108.

Each of these instruments recognise consumer consent as a justification for the collection, use, processing and sharing of personal data. The underlying rationale for this approach is based on principles of <a href="http://scholarship.law.gwu.edu/cgi/viewcontent.cgi?article=2093&amp;context=faculty_publications" target="_blank" rel="noopener noreferrer">individual freedom and autonomy</a>. Each individual should be free to decide how much or how little of their information they wish to share in exchange for a given “price” or benefit. The data collector gives notice of how an individual’s data will be treated and the individual chooses whether to consent to that treatment.

This approach has been <a href="https://papers.ssrn.com/sol3/papers.cfm?abstract_id=2533057" target="_blank" rel="noopener noreferrer">increasingly criticised</a> as artificial and ineffectual. The central criticisms are that, for consumers, there is no real notice and there is no real choice.

In today’s world of invisible and pervasive data collection and surveillance capabilities, data aggregation, complex data analytics and indefinite storage, <a href="https://www.priv.gc.ca/en/opc-actions-and-decisions/research/explore-privacy-research/2016/consent_201605/" target="_blank" rel="noopener noreferrer">consumers no longer know or understand</a> when data is collected, what data is collected, by whom and for what purposes, let alone how it is then linked and shared. Consumers do not read the dense and opaque privacy notices that supposedly explain these matters, and could not read them, given the hundreds of hours this would take. Nor can they understand, compare, or negotiate on, these privacy terms.

These problems are exacerbated for poor consumers who often have more limited literacy, even less experience with modern uses of data, and less ability to negotiate, object or seek redress. Yet we still rely on firms to give notice to consumers of their broad, and often open-ended, plans for the use of consumer data and on the fact that consumers supposedly consented, either by ticking “I agree” or proceeding with a certain product.

The <a href="https://papers.ssrn.com/sol3/papers.cfm?abstract_id=2784123" target="_blank" rel="noopener noreferrer">premises of existing regulation are therefore doubtful</a>. At the same time, some commentators question the relevance and priority of data privacy in developing countries and emerging markets.

Is data privacy regulation a “Western” concept that has less relevance in developing countries and emerging markets?

Some have argued that the individualistic philosophy inherent in concepts of privacy has less relevance in countries that favour a <a href="http://www.tandfonline.com/doi/abs/10.1080/10572317.2007.10762729" target="_blank" rel="noopener noreferrer">“communitarian” philosophy of life</a>. For example, in a number of African countries, “ubuntu” is a guiding philosophy. According to ubuntu, “a person is a person through other persons”. This philosophy values openness, sharing, group identity and solidarity. Is privacy relevant in the context of such a worldview?

Privacy, and data privacy, serve values beyond individual autonomy and control. Data privacy serve values which are at the very heart of “communitarian” philosophies, including compassion, inclusion, face-saving, dignity, and the humane treatment of family and neighbours. The protection of financial consumers’ personal data is entirely consistent with, and frequently critical to, upholding values such as these, particularly in light of the alternative risks and harms.

Should consumer data protection be given a low priority in light of the more pressing need for financial inclusion?

Some have argued that, while consumer data protection is the ideal, this protection should not have priority over more pressing goals, such as financial inclusion. Providers should not be overburdened with data protection compliance costs that might dissuade them from introducing innovative products to under-served and un-served consumers.

Here it is important to remember how we began: financial inclusion is not an end in itself but a means to other ends, including permitting poor and those living in remote areas to support their families, prosper, gain control over their financial destinies, and feel a sense of pride and belonging in their broader communities. The harms caused by unregulated data practices work against each of these goals.

If we are in fact permanently jeopardising these goals by permitting providers to collect personal data at will, financial inclusion is not serving its purpose.

Solutions

There will be no panacea, no simple answer to the question of how to regulate for data protection. A good starting place is recognising that consumers’ “informed consent” is most often fictional. Sensible solutions will need to draw on the full “toolkit” of privacy governance tools (Bennett and Raab, 2006), such as appropriate regulators, advocacy groups, self-regulation and regulation (including substantive rules and privacy by design). The solution in any given jurisdiction will require a combination of tools best suited to the context of that jurisdiction and the values at stake in that society.

Contrary to the approach advocated by some, it will not be sufficient to regulate only the use and sharing of data. Limitations on the collection of data must be a key focus, especially in light of new data storage capabilities, the likelihood that de-identified data will be re-identified, and the growing opportunities for harmful and unauthorised access the more data is collected and the longer it is kept.

Big data offers undoubted and important benefits in serving those who have never had access to financial services. But it is not a harmless curiosity to be mined and manipulated at the will of those who collect and share it. Personal information should be treated with restraint and respect, and protected, in keeping with the fundamental values of the relevant society.

Image credit: Accion

Have you read?

<a href="https://cfi-blog.org/2017/06/28/why-do-privacy-policies-matter-for-digital-credit/">Why Do Privacy Policies Matter for Digital Credit?</a>

<a href="https://cfi-blog.org/2017/05/01/how-secure-is-data-used-in-digital-credit/">How Secure Is Data Used in Digital Credit?</a>

<a href="https://cfi-blog.org/2017/05/15/data-are-not-neutral-part-1-of-2/">Data Are Not Neutral (Part 1 of 2)</a>

Big Data, Financial Inclusion and Privacy for the Poor

Agent Banking

Alternative Data

Consumer Protection

Data Analytics

Mobile Banking

Policy, Regulation and Government Initiatives

Privacy

Underwriting

Blog Post

&gt; Posted by Vitas Argimon, Credit Suisse Global Citizen Volunteer

This post is part of a multi-post series focused on partnerships between commercial banks and financial technology startups.

[caption id="attachment_21893" align="alignright" width="370"]<a href="https://centerforfinancialinclusionblog.files.wordpress.com/2016/08/figure-11.jpg"><img class="wp-image-21893" style="border:0 solid #000000" src="https://centerforfinancialinclusionblog.files.wordpress.com/2016/08/figure-11.jpg" width="370" height="237" /></a> (click to enlarge)[/caption]

Today’s financial sector narrative pits the new guy against the old guy. In the case of financial services, this narrative, as it is often portrayed, places commercial banks, the legacy providers, in direct competition with startups, with both parties vying for customers in a game defined by technological advances. While this narrative sometimes plays out in real life, it leaves out the complex ecosystem of interaction between the old and the new. In fact, when it comes to reaching new customer segments, old players are increasingly turning to startups.

In <a href="http://www.centerforfinancialinclusion.org/fi2020/roadmap-to-inclusion/the-business-of-financial-inclusion">The Business of Financial Inclusion: Insights from Banks in Emerging Markets</a>, CFI and the Institute of International Finance reveal that commercial banks are partnering with fintech startups in their efforts to reach the unbanked and underbanked. As challenges by tech-enabled competition mount, banks are seeking to link-up with startups as they see opportunities to reach new markets, bring down costs, and/or enhance their service offerings. Startups offer agility, a proclivity for risk-taking, and a disruptive mindset. On the other hand, banks already have the customer scale, comprehensive product portfolio, robust infrastructure, deposit insurance, branding, and experience/expertise. (See a full list of the relative strengths of banks and startups at right.) The combination of these strengths can be especially enabling when seeking out previously unreached population segments because the business models for serving those segments often depend on technologies that bring down costs. Startups can offer banks the tools they need to serve lower-income customers that would be difficult to serve within the confines of their traditional banking models. At the same time, many startups need access to customers and financial resources that banks can provide.

As part of my work as a Credit Suisse Global Citizen Volunteer, I mapped the landscape of partnerships between commercial banks and fintech startups, with a focus on those aimed at expanding services to reach the unbanked. I found four primary areas in which these partnerships are enhancing operations: blockchain and digital payments; lending and credit scoring; KYC and compliance; and financial capability building.

[caption id="attachment_21887" align="aligncenter" width="621"]<a href="https://centerforfinancialinclusionblog.files.wordpress.com/2016/08/figure-2.jpg"><img class="wp-image-21887" src="https://centerforfinancialinclusionblog.files.wordpress.com/2016/08/figure-2.jpg" alt="figure.2" width="621" height="349" /></a> (click to enlarge)[/caption]

While fintech startups and commercial banks offer great opportunities to each other to improve processes and expand operations, the challenges to forming successful partnerships can sometimes get in the way. The legacy systems that serve as the basis for bank operations remain a big obstacle to effective integration of applications provided by startups. Clunky IT platforms, deeply engrained company processes, and tough or murky regulatory environments make change very difficult and costly.

Partnerships may also present risks to commercial banks. Banks strive to have regulation-proof, air-tight procedures – and may shudder at the quick and dirty approach taken by some startups. One specific area of contention is data. Not surprisingly, banks are very protective of client identifying data, even when working with startups that need the data as part of their business model, for example, when carrying out alternative credit scoring.  Banks are wary that startups may be susceptible to hackers and cybercrime. Additionally, banks have a vested interest in keeping client data proprietary for competitive reasons. Partnerships centered on lending present their own set of challenges, including the question of which party (the startup or the bank) is considered the “lender” under law, and, in the case of innovative credit scoring models, concerns surrounding overindebtedness. Synchronizing bank protocols for risk management, may be essential to partnerships with startups.

It is important to remember that even in the face of the risks and challenges listed above, commercial banks are finding a way to partner with fintech startups, and at an increasing rate. As discovered in interviews with 24 banks as part of the <a href="http://www.centerforfinancialinclusion.org/fi2020/roadmap-to-inclusion/the-business-of-financial-inclusion">Business of Financial Inclusion</a> report, these partnerships are part of complex strategies to reach the unbanked and underbanked. They are challenging the dominant narrative about the battle between old and new, and offering another way to build a more inclusive financial ecosystem.

Have you read?

<a href="https://cfi-blog.org/2015/04/24/fintech-for-fi2020-a-conversation-on-aligning-technology-and-partnerships-for-financial-inclusion/">FinTech for FI2020: A Conversation on Aligning Technology and Partnerships for Financial Inclusion</a>

<a href="https://cfi-blog.org/2016/07/21/new-cfi-and-iif-report-reveals-banks-are-leading-financial-inclusion/">New CFI and IIF Report Reveals Banks Are Leading on Financial Inclusion</a>

<a href="https://cfi-blog.org/2016/08/23/zidishas-take-on-peer-to-peer-lending/">Zidisha's Take on Peer-to-Peer Lending</a>

Commercial Banks Are Partnering With Fintechs to Reach the Unbanked

Over-indebtedness

Access to credit is essential. But when lenders operate through a business model that overwhelmingly turns small loans (think $500) into insurmountable cycles of debt, they are not providing an essential service and are instead profiteering. Such is the case with the payday loan and related short-term credit markets in the United States. Today, the Consumer Financial Protection Bureau (CFPB) unveiled new proposed rules designed to improve the practices of these lenders that draw customers into cycles of debt. The aim of the rules isn’t to kill essential access to credit, but to rein-in the payday loan industry’s reliance on having a high percentage of borrowers who are unable to repay their loans and are drawn-in to repeat borrowing at higher rates and with additional fees.

There are more payday storefronts than McDonald’s restaurants in the United States. Across storefront and online lenders, there are roughly 16,000 providers serving over 19 million American households. In the U.S., payday loans typically have an annual interest rate of 390 percent or more, according to the CFPB. These loans are purportedly designed to hold borrowers over between paychecks or short periods of time. Similarly, single payment auto title loans, which use borrowers’ vehicle titles for collateral, hold an annual interest rate of about 300 percent, and are typically to be repaid within 30 days. However, the vast majority of these loans aren’t repaid in the time allotted. Considering both payday and auto title loans, four out of five borrowers aren’t able to repay their loans during the time allotted and have to renew their loan or take out another loan to cover the first one. Such actions incur additional fees and interest, and build a long-term debt trap for borrowers.

In the United States this problem causes great hardship: <a href="http://files.consumerfinance.gov/f/documents/CFPB_Proposes_Rule_End_Payday_Debt_Traps.pdf">more than one-third</a> of payday installment loan sequences and nearly one-third of auto title installment loan sequences end in default; 25 percent of car title loan customers have their cars seized; and last year the fees associated with customers needing to take out new loans to cover previous ones grew to <a href="http://thinkprogress.org/economy/2011/12/06/382752/big-banks-finance-payday-lending/">$3.5 billion</a>.

In addition to typical payday and auto title lenders, the CFPB’s new proposed rules apply to online lenders, deposit advance loans, and certain high-cost installment and open-end loans. Only consumer loans are involved, because CFPB’s authority does not extend to small businesses, although it is certainly the case that many people use personal loans for business purposes.

Key elements of the rules are:
<ol>
 	<li>The full-payment test: Under the new rules lenders would have to determine whether borrowers can afford their payment obligations without bringing on other financial hardships. They would have to verify income and check existing debt service requirements. One measure of repayment capacity for a payday loan is that a person would not have to re-borrow to repay the loan within 30 days. The rules also propose limiting the number of short-term loans that can be made in quick succession.</li>
 	<li>Principal payoff option for certain short-term loans: For loans of $500 or less, the above requirement is waived. Furthermore, provided borrowers retire at least one-third of their debt each time, up to two extensions of the loan would be allowed.</li>
 	<li>Less risky, longer-term lending options: This proposal offers lenders two ways to avoid some regulation by offering one of two alternative versions of a short-term loan. The first option would be offering loans that generally meet the parameters of the National Credit Union Administration “payday alternative loans” program. The other option would be offering loans that are payable in roughly equal payments with terms not to exceed two years and with an all-in cost of 36 percent or less, not including a reasonable origination fee, so long as the lender’s projected default rate on these loans is 5 percent or less.</li>
 	<li>Debit attempt cutoff: To deal with a related problem often encountered by payday borrowers – overdraft fees – lenders would have to give consumers written notice before attempting to debit the consumer’s account to collect payment. After two failed attempts, the lender would be prohibited from debiting the account without new authorization from the borrower.</li>
</ol>
The proposed rules are very much in keeping with the practices the Smart Campaign has championed. Its standards on avoiding overindebtedness require repayment capacity assessment, including a look at income, expenses and debt service. Its responsible pricing standards call for avoiding excessive fees, especially penalty fees. And the Campaign standards wave a red flag when the structure of a business model incorporates frequent default as an expected outcome.

The federal government is not the only actor going after payday lenders. Last month Google <a href="https://www.google.com/url?sa=t&amp;rct=j&amp;q=&amp;esrc=s&amp;source=web&amp;cd=2&amp;cad=rja&amp;uact=8&amp;ved=0ahUKEwjXgar72onNAhVDFj4KHRIZBq4QFggjMAE&amp;url=https%3A%2F%2Fwww.washingtonpost.com%2Fnews%2Fthe-switch%2Fwp%2F2016%2F05%2F11%2Fgoogle-to-ban-payday-loan-advertisements%2F&amp;usg=AFQjCNGJ8u1LKhtyFrZTNolNj8hc3rLIIw&amp;sig2=COA5Avw3P7p6q4tFmc-UTw&amp;bvm=bv.123325700,d.cWw">banned</a> ads from payday lenders, and about a dozen states have issued their own <a href="http://www.pewtrusts.org/en/multimedia/data-visualizations/2014/state-payday-loan-regulation-and-usage-rates?version=meter+at+0&amp;module=meter-Links&amp;pgtype=article&amp;contentId=&amp;mediaId=&amp;referrer=&amp;priority=true&amp;action=click&amp;contentCollection=meter-links-click">rate caps and rules</a> clamping down on the industry.

Today’s announcement involves a proposal, not a fait accompli. CFPB will be accepting comments on the proposed rules all summer before publishing the final regulations in the autumn. We are sure to see a wide array of evidence marshalled both in favor and against, and a not a few hot tempers on both sides. The first element of the rules – the Full Payment Test – is the most contentious piece. It requires significantly more underwriting and diligence/documentation on a customer than loans typically require today. This will not only increase the cost to provide these loans, it will also mean that the underwriting process is longer, potentially negating the speed and convenience benefits of payday loans.

Today the CFPB also launched an inquiry into other potentially high-risk loan products and practices that are not specifically covered by the proposed rules.

For more information on both the new rules and inquiry, and to offer your comment, <a href="http://files.consumerfinance.gov/f/documents/CFPB_Proposes_Rule_End_Payday_Debt_Traps.pdf">click here</a>.

Have you read?

<a href="https://cfi-blog.org/2014/01/22/cleaning-up-debt-collection-in-the-u-s/" target="_blank" rel="noopener">Cleaning Up Debt Collection in the U.S.</a>

<a href="https://cfi-blog.org/2014/03/21/cfpb-gives-voice-to-clients/" target="_blank" rel="noopener">CFPB Gives Voice to Clients</a>

<a href="https://cfi-blog.org/2015/02/04/keeping-score-the-client-protection-principles-vs-the-u-s-subprime-auto-loan-market/">Keeping Score: The Client Protection Principles vs. the U.S. Subprime Auto Loan Market</a>

Critical Regulation: The Consumer Financial Protection Bureau’s New Rules on Payday Loans and Short-Term Credit

Regulators

The Smart Campaign

United States

Payday Loans

&gt; Posted by Andrew Fixler, Freelance Journalist

<a href="https://www.flickr.com/photos/38476503@N08/21760883046/"><img class="alignright wp-image-20783" style="border:0 solid #000000" src="https://centerforfinancialinclusionblog.files.wordpress.com/2016/03/21760883046_408ce22872_z.jpg?w=490" alt="" width="330" height="220" /></a>Consolidation and investment in coffee brands is reaching a fever pitch, according to Andrew Daday, Director of Coffee for <a href="https://www.stumptowncoffee.com/">Stumptown Roasters</a>. Coffee is the second-most traded commodity in the world, and the modal coffee farmer is a smallholder living near or below the poverty line, resulting in unique value chains in Latin America, East Africa, and Southeast Asia. These value chains are characterized by factors like the <a href="http://www.investopedia.com/university/commodities/commodities2.asp">commodity coffee markets</a>, agronomics, organization/associations of growers, government coffee marketing institutions, and the state of rural financial services. <a href="https://en.wikipedia.org/wiki/Specialty_coffee">Specialty coffee</a> is characterized by meeting particular quality standards. Specialty coffee production allows some farmers to escape the vicissitudes of the commodity coffee market and to capture value commensurate with their product’s quality and input costs. In the United States, <a href="http://www.scaa.org/?page=resources&amp;d=facts-and-figures">55 percent</a> of the 48 billion dollars of coffee retail value consumed falls into the specialty category – representing immense growth in recent decades. If bullishness ratifies the growth prospects for high-end coffee in the U.S. and abroad, it is worth looking into how scaling will manifest at the agricultural end of the value chain, because the relationships coffee farmers have with downstream firms impact their well-being in a number of ways, including via their access to financing.

Agriculture finance for smallholders can be an operationally-intensive, high-risk enterprise. However, financial institutions like the Netherlands’ Rabobank and Mexico’s Banorte <a href="http://www.fao.org/docrep/017/i0846e/i0846e.pdf">express</a> that agricultural credit is especially viable and profitable if “producers are well-integrated into a viable value chain.” Linking into a larger firm’s supply chain is a boon to small business growth in many contexts. Besides serving as a “<a href="https://nycfuture.org/pdf/Giving_Small_Firms_the_Business.pdf">springboard for growth</a>” for small businesses from increased market access, buyer-supplier linkages yield exposure to key industry information and data points along the value chain that contribute to better capital allocation and financial accessibility for qualified entrepreneurs. Linking with a value chain may also <a href="https://www.microlinks.org/good-practice-center/value-chain-wiki/value-chain-finance">enable</a> a transition from informal lending, which can rely overwhelmingly on local knowledge for underwriting, to the formal financial services sector.

Viability of financing increases when value chain linkages are stronger and are used as intangible collateral. While building relationships with farmers, buyers consider smallholder attributes similar to those examined by credit underwriters. This translates into easier screening of potential borrowers, disbursement and repayment of loans, and management of collateral and risk. A detailed understanding of the quality of value chain linkages can further assure lenders of farmers’ future revenue streams. Lead firms in the value chain depend on supplier quality and resilience, so they may actively play a role in facilitating outside financing, or in rarer cases directly finance their partners through product and receivables financing.

In specialty coffee, value chain integration is diligently forged. The <a href="http://www.scaa.org/chronicle/2012/02/14/direct-trade-the-questions-answers/">direct trade</a> model is defined by a transparent relationship between farmer and roaster starting with contract negotiation, and continuing through a long-term alignment of interest in the farm’s growth, stability, and sustainability. Scalability is built on a knowledge network supported by government coffee institutes and international coffee raters, like the Cup of Excellence or Coffee Analysts, as well as roasting companies. In different manifestations of specialty coffee trade, this network is tapped in order to scale the number of producers as demand grows. So as coffee consumption grows, and the market share of specialty coffee increases, more farmers will enter close relationships with international firms.

For example, Starbucks runs <a href="http://www.starbucks.com/responsibility/community/farmer-support/farmer-support-centers">Farmer Support Centers</a> to <a href="https://books.google.com/books?id=xRL32pfxl8gC&amp;pg=PA123&amp;lpg=PA123&amp;dq=starbucks+farmer+support+center+costa+rica+value+chain+finance&amp;source=bl&amp;ots=3SSBDQ0BaU&amp;sig=WCgKAGGOsmXCnfI795B-XKssiQg&amp;hl=en&amp;sa=X&amp;ved=0ahUKEwiygoKjmezKAhULMz4KHUGfDF4Q6AEIMzAD#v=onepage&amp;q=starbucks%20farmer%20support%20center%20costa%20rica%20value%20chain%20finance&amp;f=false">ensure</a> the company can meet growing demand. They administer an array of resources and support to growers, and bring new farmers into the company’s fold.

Specialty coffee allows farmers to recoup investments in increased quality by assuring that their produce will be processed and sold by a series of actors that will recognize the beans’ quality and distinctive identity. Additionally, the degree to which coffee farmers capture returns on their products’ distinct value attributes <a href="https://books.google.com/books?hl=en&amp;lr=&amp;id=mwpAO0J9ojgC&amp;oi=fnd&amp;pg=PR8&amp;dq=history+of+coffee+commodity&amp;ots=iESGIxaVI-&amp;sig=VwMnMFr3BYKA9h8D2KKy3G8Z55M#v=onepage&amp;q=history%20of%20coffee%20commodity&amp;f=false">determines a significant component of their market power</a>. Daday explained that <a href="https://en.wikipedia.org/wiki/Third_wave_of_coffee">third wave coffee roasters</a> (specialty coffee roasters which consider coffee more an artisanal foodstuff than commodity) buy beans from a single origin in shipping container-sized quantities, and at a premium price. This further entrenches a mutual dependence, and cements the negotiational potence of specialty coffee producers relative to their counterparts who sell coffee destined for the commodity market.

Beyond the rarified world of third wave coffee roasters, retailers are investing in their value chains, often with regard for the financial externalities this avails to their businesses and those of their partners. Starbucks’ Director of Coffee Sustainability and general manager of the Starbucks Agronomy Company notes in a <a href="http://www.fao.org/3/a-i0016e.pdf">2006 seminar</a> that sustainability and risk control are paramount in the company’s value chain. This might manifest in partnerships with impact investors who can finance growers with whom the coffee company hopes to build a long term relationship. Recently, Keurig Green Mountain, Coffee Cooperatives, Starbucks, and USAID partnered with Root Capital to target the Roya blight, a leaf rust endemic to Latin America which causes a <a href="http://www.fomin.org/en-us/Home/FOMINblog/Blogs/DetailsBlog/ArtMID/13858/ArticleID/2179/NoTitleLink.aspx">half billion dollars in losses</a> annually when left unmitigated. Their <a href="http://www.rootcapital.org/about-us/press-releases/usaid-keurig-green-mountain-cooperative-coffees-starbucks-and-root-capital">efforts</a> will allocate $23 million, including $15 million in investment capital, to technical assistance and farm-rehabilitation efforts. Part of the technical assistance includes advice on negotiating ongoing Roya prevention costs into contracts.

From coffee to cocoa to other crops, there are roughly 500 million smallholder farmers around the world. As lessons learned in supply chain sophistication and agriculture financing amass in the growing artisanal produce and mass market grocery industries alike, the prospects for entrepreneurial smallholders may significantly brighten.

Image credit: <a href="https://www.flickr.com/photos/38476503@N08/21760883046/">CIAT</a>

This post was modified from its original version on March 4, 2016.

Have you read?

<a href="http://cfi-blog.org/2014/03/27/agriculture-microinsurance-in-africa-to-subsidize-or-not-to-subsidize/" target="_blank">Agriculture Microinsurance in Africa: To Subsidize or Not to Subsidize?</a>

<a href="http://cfi-blog.org/2014/04/24/new-council-to-expand-responsible-financing-for-agriculture/">New Council to Expand Responsible Financing for Agriculture</a>

<a href="http://cfi-blog.org/2015/01/28/banking-services-extended-to-300000-colombian-coffee-growers/">Banking Services Extended to 300,000 Colombian Coffee Growers</a>

Coffee Connections: Improving Smallholder Inclusion through Value Chain Finance

Agricultural and Rural Finance

Risk Management

Smallholder Farmers

&gt; Posted by Andrew Fixler, Freelance Journalist

[getty src="502767045?et=4gPqzK-yR3RqrJp5dfUL8g&amp;viewMoreLink=off&amp;sig=QY6g0fYXYMqBKd6viY9Q_ALOphBHNixyhieT5HJGtkc=" width="507" height="338"]

Atikus, a new financial inclusion-focused enterprise, is gearing up to launch an underwriting platform and a credit insurance product in Rwanda for micro, small, and medium enterprise (MSME) credit. The insurance product is designed and brokered by <a href="http://www.atik.us/" target="_blank">Atikus</a>, and ultimately backed by a local insurance company. I recently sat down with Kate Woska, co-founder and CEO of Atikus, to discuss financial innovation and her company’s work.

Microfinance has long benefited from careful experimentation and innovation. Initiatives that are targeting the base of the pyramid tend to be consumer-focused (e.g. micro health insurance or mobile payments development); however, according to Woska, these initiatives may be populating an industry that also suffers from institutional and market-level inefficiencies.

To illustrate, Woska turned to inefficiencies in the capitalization of MFIs, an area relevant to Atikus’ business. She notes that a large number of financial institutions serving the base of the pyramid hold capital reserves beyond Basel’s 8 percent Capital Adequacy Ratio standard. This is the case due to the high volatility in a microfinance portfolio, as well as MFIs’ insufficient opportunities to hedge risk, lend between each other, and effectively engage with global capital markets. This condition manifests as a higher cost of capital for MFIs, which ultimately contributes to the high cost of capital for the client. Woska contends that the private insurance sector is primed to help alleviate this problem by offering new credit risk management tools. For example, the insurance industry can develop loan guarantee-like products (coverage of a portion of the lender’s portfolio in the event of default loss) that more efficiently pool and more accurately price credit risk than existing models, which she notes have resulted in under-leveraged guarantee funds. Though microfinance is moving away from a reliance on subsidies and towards a model of self-sufficiency, the insurance sector’s value proposition is this ability to more effectively pool risk than small MFIs can, and to price risk more accurately through robust actuarial algorithms and advanced data analytics.

Woska didn't quantify terms due to large variances in outcomes per institution, but she is confident that unsubsidized MSME credit insurance from the private sector will more effectively pool risk and data, hopefully helping to reduce interest rates and expand the financing capacity of MFIs.

More broadly, Woska contends that, as MFI management and investors overcome the challenges of financing institutions that function in an imperfect system, concerted innovation needs to enhance and expand institutional and market-level infrastructure while maintaining a focus on base-of-the-pyramid users. This multidimensional process will involve “the client side on one end, with the banks, risk transference tools, and regulators at the other; so it’s not an easy situation where everybody can immediately see the same path forward.” The onus for institutional-level innovation (i.e. helping banks) isn’t immediately apparent, and raises interesting questions about the future field of players influencing financial inclusion; this institutionally-focused stratum of financial inclusion isn’t always as sexy a cause compared with the development of consumer facing platforms and products.

Woska believes in the potency of auxiliary financial services players in the private sector to innovate effectively. While many of these auxiliary players are new, some, like Atikus, are developing products designed to plug into existing organizations with experience in underwriting, risk management, regulatory compliance, and other operational competencies. Woska points out that introducing new financial technologies without government and/or NGO subsidies will allow for better real-time understanding of a new product’s viability, and also bodes well for long-term product sustainability. Guarantee funds that failed to self-sustain are a case-in-point of subsidized products that serve a temporary purpose and break down in the long run.

Leveraging Data

Innovations using “big data” are <a href="http://cfi-blog.org/2012/11/14/four-ways-big-data-will-impact-financial-inclusion/">anticipated</a> to improve the outreach and quality of financial services for small businesses. Woska is highly optimistic about these prospects, though blunt regarding their as-yet-unproven results: “Alternative underwriting models based on new sources of big data, such as an individual’s mobile data or social media profile, are very compelling, but are all still in early stages of experimentation and proof of concept, especially in the developing and emerging markets. Thinking otherwise could be dangerous.”

As Atikus gears up to launch its underwriting products, the company wants to better quantify the utility of its analytical models compared with the intuition of an experienced loan officer. Woska says, “In the man vs. machine debate, I don’t necessarily care what the outcome is, I just want to see decisive evidence one way or the other. This is one of the things we are aiming to do.”

Atikus is poised to be a “data machine,” according to Woska. The company prices its credit insurance based on hard and soft data from both the financial institutions with which it does business, as well as the loan applicants against whose credit risk Atikus will build an insurance policy. Institutional data include balance sheet figures and compliance with regulatory-mandated ratios, as well as softer metrics regarding corporate governance, loan product design, IT systems, and social performance. On the client side, Woska is interested in entrepreneurs’ psychometrics, as well as information on their enterprises. Atikus’ data-informed pricing structure is a departure from the traditional guarantee fund pricing structure, which often examines the historical performance of a portfolio rather than the likelihood of default of its individual constituent borrowers.

Other auxiliary players harnessing non-traditional data to underwrite thin-file clients in frontier markets include <a href="http://inventure.com/">inVenture</a>, whose mission is to pioneer a standardized credit metric for mobile users globally in order to reduce the cost and improve the efficiency and transparency of lending in frontier markets, <a href="https://www.lenddo.com/" target="_blank">Lenddo</a>, which leverages social media histories in the Philippines, Colombia, and Mexico, and <a href="http://www.cignifi.com/en-us/">Cignifi</a>, which models credit using mobile phone usage data in Brazil, Mexico, and Chile. SMEs have also leveraged credit from their relationships with major companies in their sectoral clusters, who are naturally better informed about the health of their smaller partners than banks, and have an incentive to transfer essential factors of production to ensure the continuity of their supply chain.

Like inVenture, Lenddo, and Cignifi, leveraging non-traditional data is key to Atikus’ operating model. The company’s credit insurance products couldn’t be conscionably offered without Atikus’ ability to collect and parse non-traditional data points for its actuarial models. It is impossible to talk about credit insurance without flashing back to 2008, when complacent underwriting and the illusion of hedging undermined credit on a global scale. The effects of a credit implosion concentrated at the base of the pyramid would be devastating. With the considerations of competition between lenders, a commercial drive to expand MSME loan portfolios at all costs, and over-indebtedness breaking down the social credit-risk mitigators, this issue becomes all the more salient. For these reasons, according to Woska, the quality of the loans insured by Atikus is a paramount concern.

Have you read?

<a href="http://cfi-blog.org/2015/04/03/new-research-highlights-increasing-use-of-alternative-data-in-credit-reporting/">New Research Highlights Increasing Use of Alternative Data in Credit Reporting</a>

<a href="http://cfi-blog.org/2015/03/20/reflections-on-the-latest-studies-on-microcredit/">Reflections on the Latest Studies on Microcredit</a>

<a href="http://cfi-blog.org/2015/01/20/financial-inclusion-trends-and-innovators-2015/">Financial Inclusion Trends and Innovators - 2015</a>

Innovation and Data in Financial Inclusion: A Discussion with Kate Woska, Co-Founder and CEO of Atikus

Rwanda

Credit

MSME/SME Finance

Ashley Lewis

Dwijo Goswami

Kathleen Yaworsky

Nancy Widjaja

Prateek Shrivastava

China

East Asia and Pacific

Europe and Central Asia

Latin America and The Caribbean

Nigeria

South Asia

Sub-Saharan Africa

Banks

Credit Provision

Digital Financial Services

Financial Technology

Fintechs

Microfinance

Microfinance Institutions

Partnerships

Article

Report

China’s economy has experienced tremendous growth in recent years, with a booming micro, small, and medium enterprise (MSME) market. There are over 50 million MSMEs in China that collectively account for over 60% of China’s GDP and over 50% of the government’s tax income. These businesses create 80% of total employment in China’s urban areas.

Despite China’s overall economic growth, the need to foster full financial inclusion is still imperative. In 2010, 38 million MSMEs lacked access to formal financial services, forcing them to borrow informally from friends, family, and moneylenders.

Though Nigeria’s government has set ambitious goals for financial inclusion, the majority of its people lack a formal bank account. Accion has worked in the country since 2007 to expand access to financial services.

As I prepared for my first visit to China, I was curious about what I would discover and hoping that what I learned would help me in my work to build more inclusive financial systems in Africa. I would be joining a delegation of digital finance professionals in Africa, including Tunde Kehinde, co-founder of Accion Venture Lab portfolio company <a href="http://lidya.co/">Lidya</a>. The trip was organized by the Mastercard Foundation<a href="https://www.financedigitalafrica.org/blog/2018/07/eight-things-we-learned-in-china-driving-fintech-fortune/"> Partnership for Finance in a Digital Africa (FiDA)</a>  to learn about the ecosystem in China and bring insights and inspiration to our workplaces. 

Tunde and I both live and work in Lagos, Nigeria, home to over 20 million people — one of the world’s megacities. We were fascinated to see how China has galvanized their government, businesses, and citizens to adopt financial products and services and how they’re creating a more seamless financial ecosystem for all. During the trip, we took note of everything we discovered and we’ve distilled our findings into lessons for inclusive finance in Nigeria. 
<h2>From big data to bigger data</h2>
Tunde and I were both impressed by the tremendous amount of valuable data sources companies could tap into for lending decisions. As we met with business leaders from companies such as JD Finance, Ant Financial, and WeBank (the first Internet-only bank in China), we were surprised to learn that they leverage from 30,000  to 100,000 data points on consumers and merchants in their underwriting process. As a comparison, Lidya uses 100 data points, and that’s a pretty robust data set in a region where high-quality and consistent data can be hard to obtain. Despite their advances, one Ant Financial Executive we met claimed that they are “still in the small data age of big data”, and that in 50 years we will look back and laugh at the datasets we have at our disposal today.  
<h2>Payments as the underbelly of a rich dataset</h2>
During the trip, we saw how a strong payment infrastructure is crucial for collecting data to build successful customer profiles to lend to the underserved. China’s impressive data collection starts when customers make a payment. The QR code system has been widely adopted for transactions in China, making it extremely simple for consumers to scan and pay. The low cost of implementing QR code payment infrastructure at the merchant level has led to high adoption rates, rich data sets, and <a href="https://www.techinasia.com/fake-qr-code-scams-china">minimal fraud</a>. In comparison, Nigeria has two primary approaches to payment facilitation: point-of-sale (POS) devices and USSD payments. Unfortunately, high costs, and inconsistent internet connectivity meant that POS devices are hard to come by or unreliable. 
<h2>Collaboration for advancement</h2>
One thing that Tunde and I both found surprising was the <a href="https://www.financedigitalafrica.org/blog/2018/08/you-cant-clap-with-one-hand-how-collaboration-drives-chinas-fintech-success/">high level of collaboration in the Chinese fintech sector</a>. We expected companies to be highly competitive, secretive, and unwilling to work together in their race to the top. Surprisingly, that couldn’t be further from the truth. Instead what we learned is that many share potential customer pipelines. These companies have started to specialize in finance offerings for clients at various income levels and businesses of different sizes, and they found that it was more productive to share a pipeline so each customer segment gets the most valuable experience from the optimal provider for them. 

Tunde and I have both traveled a significant amount, but we both walked away transformed by our time in China. It was a thought-provoking trip — one that allowed us to see the tangible progress of a market that has made significant strides in fintech and financial inclusion. At one point I started to panic, wondering if any African nation, let alone the entire continent, could ever catch up. However, what I came to accept was that our collective goal is not necessarily to imitate China’s model but to forge our own path, centered on the needs of African consumers and small businesses. That path may look entirely different from China’s. There is no one solution for building a financially inclusive future, and each region and country will have their own challenges and successes along the way. While our visit to China inspired us, Tunde and I returned home most excited for what’s to come here in Nigeria.

This article was written with support from Tunde Kehinde, co-founder of Accion Venture Lab portfolio company Lidya. It is also published on the <a href="https://www.financedigitalafrica.org/blog/2019/01/what-can-nigeria-learn-from-chinas-digital-economy-insights-on-big-data-mobile-payments-and-what-chinas-model-means-for-financial-inclusion-in-nigeria/">Partnership for Finance in a Digital Afric</a><a href="https://www.financedigitalafrica.org/blog/2019/01/what-can-nigeria-learn-from-chinas-digital-economy-insights-on-big-data-mobile-payments-and-what-chinas-model-means-for-financial-inclusion-in-nigeria/">a</a><a href="https://www.financedigitalafrica.org/blog/2019/01/what-can-nigeria-learn-from-chinas-digital-economy-insights-on-big-data-mobile-payments-and-what-chinas-model-means-for-financial-inclusion-in-nigeria/"> (FiDA) blog</a>.

What can Nigeria learn from China’s digital economy?

Lidya

Mastercard Foundation

Financial Service Provider

Impact Investor

Accion Venture Lab

While access to financial services has steadily increased, three billion people are underserved by the world’s financial sector, with limited or no access to quality savings, credit, insurance, and payments. This Accion Insights paper sets out to help providers begin to address these complex challenges by providing a case for change and outlining the initial strategic and tactical steps a financial service provider can take to first assess and then enhance its data capability. This guide breaks down the multiple components required for a financial service provider to strengthen its data capabilities, while referencing the growing number of specific use cases for data-driven innovations in fostering a financially inclusive world.

Accion’s Global Advisory Solutions team developed this report with the support of the Citi Foundation.

Unlocking the Promise of Big Data to Promote Financial Inclusion - Chinese

Accion Global Advisory Solutions

Unlocking the Promise of Big Data to Promote Financial Inclusion

Citi Foundation

<img class="alignnone wp-image-7421 size-large" src="http://blogs.accion.org/wp-content/uploads/2016/11/MSME-paper-bridging-the-small-business-credit-gap-1024x497.jpg" alt="DIagram from Accion Venture Lab MSME paper: Bridging the Small Business Credit Gap" width="1024" height="497" />
The International Finance Corporation (IFC) <a href="https://www.ifc.org/wps/wcm/connect/4d6e6400416896c09494b79e78015671/Closing+the+Credit+Gap+Report-FinalLatest.pdf?MOD=AJPERES">estimates</a> that in emerging markets, the MSME financing gap stands at more than $2 trillion. But recent developments like the rapid adoption of smartphones, growth in online commerce platforms, the digitization of small business processes, and enabling regulatory environments are reducing the longstanding hurdles to close this gap. Driven by the vast and untapped market opportunities, pioneering lenders are leveraging these trends to identify, assess, and serve these long-underserved small business clients.

Informed by its investments in and work with fintech startups in the MSME finance space, <a href="http://www.accion.org/how-we-work/invest/accion-venture-lab/">Accion Venture Lab</a>, seed-stage investment initiative of financial inclusion leader Accion, released a report, <a href="http://www.accion.org/bridging-the-small-business-credit-gap-through-innovative-lending/">Bridging the Small Business Credit Gap through Innovative Lending</a>, that captures how tech-enabled lenders are using new financing models to effectively market to, acquire, underwrite, and capitalize small businesses.  These lenders use niche marketing, digital, or mobile platforms, and enterprising partnerships — and often a combination of all three — to make capital available in ways that are cheaper, faster, and more convenient for MSMEs.

To date, <a href="http://www.accion.org/how-we-work/invest/accion-venture-lab/">Venture Lab has invested in a dozen innovative early-stage startups</a> in the MSME finance space since it was established in 2012. The breadth of this work, alongside Venture Lab’s investment model — which pairs capital with extensive strategic and operational support — gives it a unique viewpoint to assess trends and opportunities in the field.
<h2>Acquisition, underwriting, and funding innovations</h2>
Broadly, new lenders in the MSME finance field are making inroads in this market by innovating across three dimensions deemed to be critical to success in the lending business: acquiring new customers to ensure scale, tailoring loan underwriting to MSME characteristics and needs, and attracting affordable debt financing or investment to on-lend to MSME borrowers.
<h3>Customer Acquisition</h3>
Acquiring MSME customers has historically been a resource-intensive process, which could include multiple client visits and frequent engagement with a sales or loan officer, leading to acquisition costs outweighing potential returns. By identifying, understanding, and engaging with their target customers in ways that go beyond traditional sales approaches, lenders not only grow their loan portfolios but can also more effectively assess the creditworthiness of clients. In India, <a href="http://www.ayefin.com/">Aye Finance</a> uses an industry cluster approach to gain insights and strong connections within specific manufacturing, trading, and service industries (e.g., shoes, brass works, garments). <a href="http://www.tiendapago.com/">Tienda Pago</a> leverages the relationships between fast moving consumer good distributors with mom-and-pop stores to acquire small businesses at scale across Peru and Mexico
<h3>Underwriting</h3>
In many markets, the formal and verifiable data that is necessary to assess a business’s credit risk, such as income tax records, is almost impossible to acquire. Additionally, the small loan sizes typical of MSME lending effectively rule out resource-intensive due diligence checks into an individual MSME’s financial health and creditworthiness. By leveraging alternative sources of data, partnerships, and new analytic tools, lenders can say yes to more customers while keeping a healthy risk profile. Mexico’s <a href="https://konfio.mx/">Konfio</a> uses its online loan platform and taps into new sources of data such as the country’s electronic invoicing database to gather more than 5,000 biographical, social, and financial data points. Konfio’s underwriting algorithm enables them to use this data to swiftly evaluate and process a loan application. <a href="http://kopokopo.com/">Kopo Kopo</a> in Kenya uses small merchants’ mobile money transaction data to assess these merchants’ business trends and variations. This transforms a customer’s transaction history into a pseudo-credit history that Kopo Kopo uses to extend unsecured merchant cash advance
<h3>Funding</h3>
Innovative, emerging MSME lenders often suffer the same constraints in obtaining finance that hamper their customers; funding for such groundbreaking firms can be scarce and more expensive than for traditional banks. MSME lenders need to provide investors and funding sources with a compelling business case. In the US, <a href="http://cim-llc.com/">Community Investment Management</a> uses a proprietary technology infrastructure to connect investors to technology-driven lenders that provide small business loans in the United States, providing investors with a transparent look into individual loan performance as well as the social impact of the funded loans.

The examples above, along with a number other innovative lenders in Venture Lab’s portfolio, are making strides in providing the financing needed for more than 200 million underserved MSMEs across the world.

Much like the markets they serve, these lenders are themselves in need of wider and deeper support: advice and mentoring, well-targeted research, more conducive regulatory environments, and capital investment.  Moreover, the majority of the innovations that we have seen are mostly in acquisition and underwriting, indicating that these innovative lenders are still reliant on traditional providers like banks as their funding source. Banks and other funding institutions can then play a key role in supporting innovative MSME lenders by providing them with access to onlending capital in the local currency at a reasonable cost. This is crucial in enabling these lenders to be able to serve more businesses, particularly during their early days of building their loan portfolio. Incumbents don’t have to engage startups in this space in a transactional or equity-based manner; instead, they could foster collaborative partnerships or develop a co-innovation relationship. Through partnerships, incumbent financial corporations can help smaller companies grow and expand their reach, learn more about emerging technologies, and create a robust ecosystem.

By combining forces of key actors in the space, the global MSME funding gap could be narrowed faster and in turn spur economies around the world.

Venture Lab developed this report with the support of the Mastercard Center for Inclusive Growth.