Financial Services Build Resilience in Face of Crises Like COVID-19

As the COVID-19 crisis has deepened, countries such as India have gone on lockdown while others, such as Kenya, have significantly curtailed domestic travel. As a result, microentrepreneurs throughout much of the developing world will be unable to work, and farmers will be unable to get their goods to market.

Photo: Anas Kamal, 2018 CGAP Photo Contest
Photo: Anas Kamal, 2018 CGAP Photo Contest

There is a growing number of blogs, webinars and announcements about how the pandemic might impact microentrepreneurs and the microfinance sector. Most of these, and the mitigation efforts they recommend, focus on how to help financial services providers — and with good reason. Without external support, many providers could collapse. Yet, only a few observers have mentioned that the response also should take into consideration understanding how the impacts will vary by type of microfinance clients.

CGAP is proposing a different approach to understanding how financial services can help low-income people respond to and recover from this crisis.

Over the past year, we have developed an updated theory of change and narrative around how financial services can improve poor people’s well-being. Recently, we started preparing a learning agenda to guide research investments on financial inclusion. We have learned several lessons from this work that may help the financial inclusion community understand what to prioritize during and after this crisis.

Our review of the global literature suggests that two things play a vital role in enabling poor people to improve their well-being: the ability to stabilize consumption (resilience) and the ability to invest in their futures (opportunities). How resilient someone is and how well they are able to capture opportunities, in turn, depend on their endowments of financial resources, human capability and physical capability. Financial services can contribute to all three endowments.

The literature reveals a virtuous cycle between resilience and opportunities. Resilience creates the stability from which poor people can build their futures by capturing welfare-enhancing investment opportunities. Capturing these opportunities further enhances resilience, increasing people’s ability to manage risks and cope with shocks while making new welfare-improving opportunities attainable. Thus, resilience improves opportunities, which improve resilience, and so on in a virtuous cycle. When financial services contribute to poor people’s resilience, they create an opening for poor people to invest in their own and their family’s future.

But what happens when a severe systemic shock, such as the COVID-19 (coronavirus) pandemic, erodes resilience? The virtuous cycle can turn into a vicious downward cycle, reducing people’s ability to capture opportunities. This suggests that maintaining and building resilience should be a top policy goal during a crisis.

Like anyone else, poor people around the world use various strategies to prepare for, cope with and recover from typical shocks. Preventive measures include saving money, purchasing insurance or investing in household member migration so that they can access remittances in the future. Coping measures include working more, selling assets and borrowing from family and friends, social networks or financial services providers. Recovery measures may include accessing investment loans from informal or formal providers to rebuild livelihoods. Some of these strategies require advance planning (savings and insurance), having a stock of assets in advance (selling assets, using social capital to borrow or receive remittances) or being part of responsive social networks. The evidence shows financial services often play a role in these strategies.

During a systemic catastrophe such as COVID-19, however, the traditional means of achieving resilience quickly erode for vulnerable households. As the COVID-19 pandemic unfolds, we are seeing that people without significant savings or insurance coverage — most of the poor — will have difficulty meeting basic needs once their usual means of earning income is shut down. The ability to take on extra work or migrate is not an option at this time, while remittances from equally hard-hit family and friends will be reduced.

While this suggests the need for support from governments and donors, their responses will be more effective if they consider which financial products can contribute to the resilience of which groups and under what conditions.

For example, people who had microinsurance before the crisis tend to be the best positioned to benefit from it right now. Yet, governments and industry can make it easier and safer for them to access the benefits. For example, Kenya and Morocco have taken action to ensure all COVID-19-related health claims are honored regardless of exclusion clauses, while China is rapidly launching digital insurance products.

Likewise, people with savings will need to be able to access their money. Policy makers can support the resilience of savers by ensuring microfinance institutions remain open to the extent that customers can withdraw savings (with the right health precautions in place).

For groups without savings or insurance, and indeed for those who quickly run through these resources, access to remittances and government-to-person (G2P) payments will be critical to surviving until they can start working again. To ease access to remittances and other digital financial services, various governments are enabling temporary incentives or subsidy measures for providers to reach more poor people. Examples include direct subsidies for agents operating in rural areas and adequate and tiered provider fees to distribute G2P funds. Governments also can recognize remittance services as essential businesses to ensure access for both senders and receivers.

But with remittance flows slowing down due to the crisis, G2P subsidies will come to the fore as a key short-term means for maintaining household resilience and, ultimately, well-being. Digital or other contactless channels will be critical for safely getting funds to people who need them. Although fiscal capacity will be a challenge for some governments, this is arguably the best overall strategy for maintaining poor people’s consumption levels. Where governments can afford subsidies, digital government transfer payments will be necessary.

What is the role of credit in maintaining the resilience of low-income groups at this time? Evidence suggests that credit can help but it also can hurt if used during a crisis. People who borrow during a crisis will have to repay with interest at a time when incomes are low or nonexistent. Loan repayments may delay recovery of their previous consumption levels. Yet, credit may work for those who have the necessary conditions such as education, market access, business knowledge, the ability to switch livelihoods or the ability to draw down remittances.

The scope of the COVID-19 pandemic and the response to it has reinforced for us the importance of financial resilience, particularly for the most vulnerable. We hope that in the long run, policy makers and funders will increase their investments in the types of financial tools that build individual and household resilience. In the short run, policy makers and funders must support household resilience and position families to recover from the crisis by considering which groups require which products and under what conditions. At the same time, they should recognize that remittances and, to an even greater extent, G2P payments will play a key role in the response and recovery from the COVID-19 crisis.

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