Financial Inclusion Can Reduce Inequality and Bring Peace

The rise of inequality has been the subject of many headlines over the past several years. Oxfam’s 2015 Wealth: Having It All and Wanting More estimated that the world’s richest 1% will own more than all of the rest of the world’s 99% by 2016. Branko Milanovic’s Elephant Chart summarizes the disparity in income growth and rising inequality by showing that while the world’s poorest 10% have gained little, global elites have made significant gains. Globally, those in the middle (the lower 10 – 70% of incomes) have also had important gains, driven primarily by China and India; but the middle classes in developed countries have stagnated.

The global inequality and conflict connection

Economists have been writing about and warning of the impacts of inequality on the economy and on society for decades. Joseph Stiglitz’ “The Price of Inequality” warns of slower growth, lower GDP and greater instability as a result of growing inequality. Thomas Piketty’s “Capital” warns that growing inequality threatens broad-based discontent and will eventually undermine democratic values.

Seeming to lend support to such economists’ views, data shows that as income inequality has soared, the world has witnessed an unprecedented number of people forcibly displaced by conflict or violence. In December 2015, the number of forcibly displaced reached 65.3 million, more than doubling in only five years, according to UNHCR. This represents a record high since World War II. The images of refugees making the perilous journey across the Mediterranean has now been etched in most of our psyches.

Financial inclusion can address both challenges, especially in fragile and conflict-affected states

With these kinds of statistics, it is not surprising that the Sustainable Development Goals have called out inequality (Goal 10) and peaceful societies (Goal 16) as important priorities under the new aid architecture. While we may not have the direct evidence that attributes violence to inequality, there is no doubt that inequality is stirring much of the disenchantment with the status quo. The solutions to deep inequality are manifold, but at the heart of most solutions are two important concepts: inclusive growth and social justice. Embedded in these concepts are principles of equal access to opportunity and services, regardless of class, race, religion or gender.

Creating inclusive growth and social justice undoubtedly requires reflection on existing systems, including political, financial and educational structures. Policymakers need to look for ways to eliminate as many of the opportunities for elite capture as possible, while increasing opportunities for those previously marginalized to fully participate in the economic system. There is an opportunity to promote inclusive growth and social justice by promoting financial inclusion — particularly in fragile and conflict-affected states (FCAs), where we see low access and high demand for financial services.

Lower access and higher demand in fragile and conflict-affected states

Financial access in FCA states is heavily affected by poor or destroyed infrastructure. Without branch networks or telecommunications infrastructure, which is often destroyed by war and violence, basic access can be challenging, particularly in regions where the poor are more likely to reside. Largely for this reason, almost 80% of adults in FCA states remain outside the formal financial system and have limited access to services that could help their families overcome instability.

Source: Findex

Despite having lower access to financial services, however, poor people in FCAs actually demonstrate greater demand for them than those living in stable environments. Given the high levels of volatility and unpredictability in FCAs, poor people must rely on financial tools to help them manage frequent risks. The graph below shows the increased usage of loans (both formal and informal) for emergencies and other purposes in FCA countries as compared to low- and middle-income countries.

An opportunity for real impact on those who need it most

The financial system is, in a sense, the nerve system of an economy. It is the platform used for market transactions to occur, the means by which governments distribute benefits, and the mechanism used by citizens to demonstrate their civic responsibilities by payment of taxes and government services. Ensuring the financial system is inclusive is paramount in the process of creating a more inclusive, equal and peaceful society.

On the one hand, opening up the financial system to the poor and marginalized segments will increase opportunities for broader economic participation by allowing them to use various financial products to start and grow enterprises; to invest in education and job skills to adapt to changing workforce requirements; and to protect themselves, their families and their businesses from shocks.

On the other hand, a digital payment system used for government payments of pensions, salaries, and welfare benefits will reduce opportunities for corruption. A digital payment system also enables increased accountability and transparency as all transactions in and out between citizens and the state are recorded. In a paper on SmartCards in India, the researchers found that by digitizing government transfers, bribe demands were reduced by 47 percent, resulting in increased payments received by beneficiaries.

While more inclusive financial systems alone will not solve the problem of inequality and build inclusive and peaceful societies, it will certainly be an important contributor, and it is hard to imagine progress without it.