The introduction of the credit score prompted a significant shift in consumer behavior, making borrowing more commonplace particularly in middle-class households. The FICO continues to play a prominent role in increasing car sales, college enrollment rates, and global retail e-commerce sales, among others.
Clearly, credit has become an integral part of the everyday lives of the middle-class, yet 2.5 billion still don’t have access to traditional banking services. Between their low income and inability to borrow money from conventional sources, they have a higher risk of falling off the grid.
The good news is that the smartphone may hold the answer to the growing problems of microfinancing among the poor. Due to continuous smartphone penetration, emerging market players are finding new ways to know their customer and offer lending options tailor-made to their needs and repayment abilities.
The traditional banking infrastructure is designed for the middle and upper classes. This leaves the unbanked population with little to no choice but to make the most out of their low income. Through mobile technology, the unbanked now has a way to prove their identity, allowing lenders to feel more confident about lending them money.
New entrants are given access to financial products including savings, insurance, and loans. This also benefits the lending operators as lending through mobile reduces overhead costs. Instead of maintaining a massive physical workforce to manage their books, they can turn to their mobile to handle nearly all customer data.
In Sweden, for instance, HittaSMSLan aggregates data from over 70 lenders to help users find the best short-term cash loans with the lowest rates. These lenders use mobile technology to come up with engaging user experiences, integrating gamification and other behavioral science concepts to compelling prospective customers to act. Using smartphones to reach their target audience allows them to provide a high-touch experience without spending a ton of money on traditional techniques.
Banks and most microlending businesses don’t explain clearly how they view risk. They often rely on data analytics and even artificial intelligence to evaluate how much money to lend and what interest rate to charge.
Smartphones are changing this outdated approach by creating an exchange of information between lenders and borrowers. For lenders, this provides real-time insights into their customer behavior, thus enabling them to tailor rates based on their level of risk.
One of the biggest challenges in microfinance is the creation of new product designs that would cater to the needs of low-income communities. Market innovators are planning to deliver products and services such as payments, savings, and credit without hurting the finances of the unbanked.
Since the financial products in traditional banks are designed for the middle class, the poor end up paying proportionately higher on each transaction. This structure is inherently flawed. Among the first steps taken by emerging market players is reducing the processing fees of smaller payments done through mobile. This is a step in the right direction toward creating banking alternatives that are fairer for everyone.
Image credit: Future of Microfinance via Peshkova/Shutterstock