The poor have more overall wealth than we might at first think, so there is a puzzle in why big mainstream banks don’t serve them well. In traditional financial businesses, big volumes of money flowing in and out can generate nice profits from small percentage service fees. In the U.S. alone, a trillion or so dollars per hour (!) flow through the banking system. Such high volumes, in turn, enable big investments in infrastructure, staff, new innovations, and so on.
In corporate banking, the revenue, cost and risk management sides of the business are built around the needs and scale of transactions for customers like big business clients, pension funds, and the very wealthy. Fees are affordable as small percentages of large transactions but add up to a lot.
Another side of the industry, personal banking for everyday folks—like checking and savings accounts, credit cards, home mortgages, and small business loans—is less lucrative and involves smaller transactions with smaller fees than big corporate banking. But technology and economies of scale enable cost efficiencies in things as diverse as data management and hiring and customer call centers. The average checking account in the U.S. costs a bank about $350 per year to maintain.[i] But at a scale of more than 100 million U.S. households–9 out of 10–with checking and savings accounts, overdraft fees alone generated more than $30 billion and ATM fees generated $32 billion more. The average American household with credit card debt owes more than $5,700[ii] on which banks charged average annual interest rates about 12% while simultaneously collecting billions in transaction fees from retailers.
In short, big banks are interested when there are trillions of dollars to manage. Microfinace so far, then, is as a whole roughly 10-times too small by these standards, with only hundreds of billions of dollars in assets, deposits and loans. With seemingly not enough scale, banks have been hesitant to enter markets for the poor. Harvard’s Marguerite Robinson called this (in her view false) conventional wisdom the “penny economy view of the developing world.” [iii]
In reality, how much potential money is there among those billions of unbanked people? Too little despite vast numbers of poor? The short answer is there’s plenty of wealth. The potential is huge. But—and this is a big ‘BUT’—the wealth is packaged differently.
One significant way financial markets for the poor differ is how the wealth is stored, in informal mechanisms that formal contracts and legal systems don’t deal well with. The famous Peruvian economist Hernando de Soto estimated that in the 1990s the poor—when added up across the world—had about $10 trillion in assets trapped in what de Soto called dead capital.[iv] That’s a huge number that banks would ordinarily flock towards. It was at the time roughly the same as the total value of all the companies on the world’s top 20 major stock markets (US, London, Tokyo, etc) combined. It was roughly 5 times more than the total savings deposits in all US banks added together. A $10 trillion asset base is plenty of wealth for banks to get excited about.
If the poor have so many assets, why haven’t banks tried to do business with them? Unfortunately for the poor, dead capital consists of assets, usually in informal sectors, that cannot be easily bought or sold or used as collateral, often because no documentation, legal paperwork or enforceable property rights exist to them. Housing built on land, for example, is often dead capital because legal systems have not assigned formal ownership to anyone—land just gets passed along in families or traded informally among villagers. Many of the world’s large slums lack clear property rights. Millions of people have squatted in them, often for generations, building shacks and shops without any legally recognized ownership. De Soto estimated that “In Haiti untitled rural and urban real estate holdings are together worth some $5.2 billion. To put that in context, this sum is four times the total of all assets of all the legally operating companies in Haiti…and 158 times the value of all foreign direct investment in Haiti’s recorded history….”[v] Without legal ownership documentation, mortgages can’t happen as done in rich societies to fund buying homes, paying school tuition, or opening new small businesses. In many poor areas there are no street names or numbers, so the formal addresses needed to open savings accounts or get home insurance are missing.
The consequence? Even though they now serve hundreds of millions of poor clients, microfinancial services have only begun to chip away at in the huge barrier. The vast majority of the world’s bottom billions of poor, despite their trillions in assets, are excluded from formal financial services of any kind.
[i] Moebs Services (2014).
[ii] U.S. Federal Reserve (2014).
[iii] Robinson (2001) p. 250.
[iv] de Soto (2001).
[v] de Soto (2001) pp. 30-1.