The rapid digitization of the past few years, which accelerated during the COVID-19 pandemic, has presented new financial solutions that can bring many poor people into the formal financial sector. As different crises unfold worldwide, including climate change, political instability and the food crisis, these new digital financial services (DFS) 1 will be crucial for consumers in building resilience and a better future. The services, including digital savings, credit, payments, insurance or investment products, unlock life-changing opportunities for low-income consumers by helping them save, borrow, and receive remittances.
At the same time, our recent analysis of the global evolution of DFS consumer risks shows that the nature of consumer risks in DFS is evolving and the scale of risks is sometimes growing faster than the opportunities that the services create. These consumer risks can cause direct financial losses and other damages that erode trust among customers 2 and their confidence in the way they use DFS, while discouraging potential users from embracing DFS. While the reasons behind the growth in consumer risks are not perfectly clear, we believe that it is due to a combination of different factors: the rapid expansion and ubiquity of DFS, the transformation of the financial system and rise of nontraditional providers, and the low digital literacy among low-income consumers, particularly women.
Consumer protection struggles to keep track of a fast-evolving market where bad practices grow faster than the increase in DFS usage and faster than the remedies. Progress has been made in the past decades to bolster consumer protection, including enactment of new consumer protection laws, emergence of new market conduct and data protection authorities plus industry codes of conduct for digital finance providers, rise of financial education programs, and introduction of different initiatives from the civil society. But it hasn’t curbed irresponsible practices. This raises the question whether consumer protection rules and their application, as well as other existing tactics are adequate for such a fast-evolving market.
CGAP research finds that it is time to reassess the existing approach to consumer protection at a time when multiple new regulators are emerging, new and innovative products and services are entering the market, and the number of vulnerable consumers is on the rise due to the different unfolding crises. The rapidly changing digital finance market necessitates a new, holistic approach to consumer protection. We believe it is now time to build a “responsible digital finance ecosystem” where core market actors such as consumers, DFS providers, policymakers, and market facilitators (e.g., funders, researchers, and innovators) come together to find solutions to analyze, manage and mitigate consumer risks. Surely this would be in everybody’s best interests. But what would such an ecosystem entail and what would it take to ensure its success?
In this essay, we explain what we mean by a responsible digital finance ecosystem approach, why it is necessary and how key actors can build it together. While we are still in the early stages of developing this conceptual framework, we focus here exclusively on key conditions that we believe are necessary to build a responsible digital finance ecosystem, namely Customer-centricity, Capability, and Collaboration—the 3 Cs. Because it is a new way of looking at consumer protection in the digital era, we expect to enrich this approach by testing it out over the next few years and gathering inputs from all the partners working on this topic.
The case for a new approach to consumer protection in digital finance
The expansion of DFS over the past decade has been transformational for financial inclusion and will likely continue to be. There is ample evidence that digital finance has been an excellent engine for financial inclusion, helping low-income consumers in different regions around the world build resilience and capture opportunities. For example, when the Indonesia Raskin program for food assistance moved from cash to digital, 90% of the 1.4 million recipients received more food regularly. In Kenya, households that used M-Shwari were 6.3% less likely to forego expenses due to negative shocks.
According to Findex 2021, the surge in digital payments fueled by the COVID-19 pandemic expanded access to formal financial services globally. In developing economies, 71% of people have an account at a bank, at another financial institution, or with a mobile money provider (up from 63% in 2017). However, despite an increase in access to and usage of DFS, there is no strong evidence that the quality of financial services has increased. For example, we know of cases where digital finance is being used by a large majority of the population but where financial health has declined. In fact, as market dynamics have shifted, a number of headwinds have emerged which must be addressed to ensure digital finance continues to be a responsible source of financial inclusion.
DFS risks are evolving in nature and growing in number and scale
While digital finance has the potential to expand inclusive access to financial services, recent CGAP research shows that the nature of existing DFS risks is evolving. New risks have also appeared in the past few years, such as mobile app fraud, biometric ID fraud, algorithmic biases, crypto related frauds, and authorized push payment scams. Some of these risks are directly created by unscrupulous providers that, even if few in number, can cause significant harm to customers and the market. For example, some digital consumer credit providers in Kenya, Tanzania, and India hide exorbitant interest rates with false advertising, sometimes pulling customers into a debt trap. Such risks have more profound consequences for women, who tend to have lower financial and digital literacy than men and often get lower quality services than men—or no services at all—due to constraining social norms. In our recent national survey in Côte d’Ivoire, we found that women were more exposed to cyber risks than men.
In addition, the scale of DFS consumer risks is growing. Among the four types of such risks that we have identified—fraud, lack of transparency, data misuse and inadequate redress mechanisms—we see growth at global, regional and country levels for fraud and data misuse, both of which are directly linked to cybersecurity. Our research also shows increasing evidence of poor transparency, while the picture is more nuanced for weak redress mechanisms for which there is less data. For example, globally, app-related fraudulent transactions are growing faster than app usage for financial services. In South Africa, SIM swap fraud incidents in the banking sector doubled between 2017 and 2020, while mobile subscribers increased by less than 10% over the same period.
Multiple DFS providers are joining the ecosystem, bringing new opportunities and risks
With the rising role of platforms, fintechs and embedded finance in expanding financial inclusion, we are seeing a fast-growing number of players enter the ecosystem. Platform-based finance is expanding rapidly, and the volume of transactions on big platforms doubled between 2015 and 2018, reaching US$304.5 billion in 2018. At the same time, the number of fintech startups globally has almost doubled since 2017, reaching more than 26,000 by November 2021.
While many bring innovative financial solutions that can reach the underserved, new service providers can also carry new risks to consumers, particularly in fraud and data misuse. The peer-to-peer (P2P) crisis in China is one example. In this case unscrupulous providers of investment were building Ponzi schemes, to the point that the Chinese authorities had to shut down most of the 5,000 P2P companies that emerged between 2018 and 2020. While it is difficult to establish the number of victims, millions of people may have lost the money they thought they had invested wisely. Another example is the emergence of digital credit apps in India at the height of the COVID-19 pandemic. According to CGAP and Dvara estimates, by July 2021, more than 150 such apps were operating in the country, often illegally, and our research found that in many cases, the providers misused customers’ data for debt-collection purposes.
While new regulators have emerged, there is often a lack of effective regulation and supervision of new providers
To better protect consumers, many developed and developing economies have put in place new authorities to oversee market conduct and consumer protection. Many of these authorities have also developed specific regulations for financial consumer protection, including for actors in the digital ecosystem. As the use of data in financial services continues to grow, we have also seen examples of the rapid emergence of regulatory and supervisory frameworks for data protection. For example, in Africa, 61% of countries have adopted legislation to secure data and privacy protection, and globally at least 87 countries have an authority in charge of data protection. Several other authorities are also involved in this ecosystem as we describe later.
Despite all the progress made so far, about one in four low-income countries in 2017 did not yet have a specific institutional arrangement for financial consumer protection and only about one in three had specific consumer protection elements in their financial regulations. In short, the current approach is not sufficient nor holistic enough to create a responsible digital finance ecosystem. An example of how this plays out is the ambiguity in many jurisdictions about the categorization of new digital players and the rules that apply to them because digital finance involves many authorities.
Often, these new authorities have similar responsibilities to, or overlap with, other authorities that already exist. While specific types of regulators are well connected with their peers internationally, the different regulators at a country level often have limited mechanisms in place to collaborate with each other. For example, when it comes to digital credit, financial regulators are usually in charge of regulating credit, but because digital credit relies on algorithms processing customer data, data protection authorities are also concerned but not always involved.
Some authorities have deployed market monitoring tools to help them understand the risks generated by new players but many still don’t have access to these tools or to the other resources they need to monitor the market. In our interactions with regulators and supervisors, they often mention a lack of internal resources as an obstacle to regulating and supervising some of the latest innovations in the market, such as the emergence of crypto assets, which are sometimes used in a fraudulent manner. In addition, many regulators and supervisors focus on ensuring that providers tick the right compliance boxes, but with little assessment of whether customers are effectively protected. With the existing approach, regulators don’t have a full picture of consumer risks, nor can they sufficiently measure the impact of consumer protection policies, regulation and supervision of people’s financial lives.
To better educate consumers, governments have put in place financial education programs, sometimes through their ministries of education and sometimes through their financial sector authorities. But it is not clear yet that these programs are evolving fast enough in light of the rapid digitization of financial services.
Who are the key actors in a responsible digital finance ecosystem?
The digital finance ecosystem consists of four core actors: consumers3, DFS providers, policy makers, and market facilitators.
At the center of the ecosystem are consumers in the broadest sense—some are existing DFS users (i.e. customers), while others still rely on informal financial services. Some have good financial and digital education, while others, such as many low-income women, are less literate or even illiterate. Some customers are particularly vulnerable due to adverse personal circumstances, such as illness. They are sometimes represented in the ecosystem by consumers associations.
The ecosystem also consists of providers of DFS, which range from incumbent banks, mobile network operators, microfinance institutions through to fintechs, platforms, and new types of digital banks. The whole ecosystem is shaped by the policies and regulations put forth by a variety of regulators, supervisors, ministries and other authorities in digital finance domestically and internationally, which we refer to as “policy makers”.
Market facilitators consist of diverse actors that often play several functions that contribute to making the digital finance ecosystem more responsible, which include providing temporary funding (e.g., funders), technology solutions (e.g., app developers), and public knowledge (e.g., researchers), as well as advocacy (e.g., the United Nations Secretary-General's Special Advocate for Inclusive Finance for Development (UNSGSA)). They often interact with different actors in the ecosystem. Funders, for example, can play a catalytic role in the ecosystem by providing incentives and support to all the other actors in the system. A recent CGAP funder survey showed that responsible finance is a growing priority for many funders. In a qualitative survey of 31 funders, consumer protection ranked the most important policy funding priority for the next five years. If allocated well, that funding could enable the development of responsible digital finance ecosystems.
A responsible digital finance ecosystem approach considers the individual roles that consumers, providers, policy makers and market facilitators play as well as their relationships with one another. Often these interactions and relationships are nascent and require nurturing.
How can we collectively build a responsible digital finance ecosystem?
1. Customer-centricity better protects consumers by putting them at the core of any initiative.
Providers that adopt a business model that puts customers at the center not only create sustainable business value by attracting and retaining customers, but they also shift the responsibility for consumer protection from the customer toward the financial service provider (FSP). This approach requires providers to focus on customers rather than products, with growth based on customer needs. It also requires leadership to create a customer-centric vision and culture within the organization. A customer-centric business typically adopts a structure that is more adapted to serving customers at different stages of their journey. We believe that taking such an approach builds consumers’ trust and better protects them against risks.
For example, Pioneer Microinsurance (PMI) in the Philippines uses a customer-centric business model in its microinsurance business. After investing in a more customer-centric culture for its staff and actively collecting insights from customers, PMI increased client satisfaction for problems resolved from 7 percent to 67 percent within a year. One first step for DFS providers to act more responsibly with their customers is to follow industry guidelines developed by organizations such as the Social Performance Task Force. Major platforms can take action when they see that their customers are not happy with the financial services that they support (e.g., Google deleted predatory consumer credit apps from its play store in India).
For financial consumer protection authorities and other authorities supervising DFS, there are several ways to become more customer centric. The most advanced is for regulators to take an approach where the regulatory focus shifts from provider compliance with prescriptive check-the-box rules to customer outcomes, which are the result of FSP products, delivery, conduct, and practices. Embracing a customer outcomes-based approach to consumer protection gives regulators the ability to measure whether financial services are offered responsibly and adapted to the immediate needs of customers.
Becoming more customer-centric also means integrating consumer voices into financial regulations. One way to do this is by interacting with consumers associations, who can play a constructive role in this ecosystem to ensure the voices of women and vulnerable consumers are heard in the digital finance ecosystem.
For market facilitators, being customer-centric can mean several things. For funders, who act as facilitators in the market, this means that their strategies, projects and support should have a strong focus on the experiences and results of a customer’s access to, and use of, financial services. It may for example include consultation with customers and consumer groups in the process of project design with providers and at the policy level. For other market facilitators, this means supporting any activity that empowers consumers or contributes to empowering them.
Ultimately, for all the actors in the digital finance ecosystem, being customer-centric means that they care for customer outcomes, i.e., the impact of their actions on customers.
2. Key actors have the capability to contribute to a responsible ecosystem.
All actors must have the appropriate capability to play a responsible role. However, capability means something different for each actor.
Consumers need to be empowered with knowledge and incentives to make the right choices when using financial services. There is growing evidence that consumers' capability can improve with the right approach by all the core actors of a responsible digital finance ecosystem, including financial authorities. While there has been debate on this issue for several years, the latest meta-analysis shows that financial literacy can positively impact knowledge and behavior at least in the short term. With better knowledge and behavior, we can expect that consumers can more easily avoid using digital credit with exorbitant prices or investing in digital Ponzi schemes promising customers formidable returns on their investments. Consumer associations play an important role in strengthening consumers' capability and helping them become better represented vis-a-vis regulators.
One area that continues to merit additional attention is digital literacy and how digital education can help low-income customers navigate the digital economy and avoid cybersecurity risks that are growing globally. Up to now, much of the focus has been on financial literacy. With the growing digital economy and associated consumer risks, however, digital literacy requires additional attention.
Not all DFS providers know how to shift to a customer-centric approach, which means that they miss an opportunity to improve client satisfaction and customer protection. To make their business more customer- centric, FSP management and staff should acquire skills that can help them serve their customers, especially women and vulnerable customers, better and more responsibly. Certifications like the one provided by GSMA to mobile network operators also help by eliciting recognition and trust from other market actors such as investors. Initiatives such as the Social Performance Task Force and the Responsible Finance Forum can support providers in their quest for more responsible practices.
With the rapidly evolving digital finance ecosystem, regulators and supervisors often find it difficult to stay ahead of the curve and monitor DFS markets efficiently. For a start, they need to have basic legal and regulatory frameworks for financial consumer protection in place as well as an institutional arrangement to implement and enforce such frameworks, whether through a specific authority or an arrangement within a financial sector authority. This requires more staff, tools, incentives, and resources to analyze data, monitor the market and, when possible, even correct it—such as when discrimination against women or other groups is identified.
With the growing threat of cyber risks related with crypto-assets, it has become urgent for financial consumer protection authorities to acquire staff or external expertise with knowledge in complex technology-related threats. They can gain new knowledge through international fora such as the OECD and FinCoNet for market conduct authorities, the Global Privacy Agency for data protection authorities, and the Alliance for Financial Inclusion for a broad range of regulators, not to mention through standard-setting bodies’ convenings and training. At the same time, many authorities are resource-constrained, which means that the role of funders is critical here as a temporary support.
Because not all actors in the ecosystem realize yet the benefits of making digital finance more responsible, all market facilitators, including funders, can spread awareness of these benefits and pave the way toward a responsible digital finance ecosystem. This awareness will also create more incentives for change and for actors to build their capability. Market facilitators can play a significant role in facilitating learning opportunities, including peer learning amongst groups. They can use training, technical assistance and knowledge sharing. The Toronto Centre is strengthening the capacity of financial sector authorities in emerging markets and developing economies (EMDEs), including on consumer protection, which accelerates the learning curve across jurisdictions. Likewise Consumers International, a large network of consumers associations, is training its members consumer associations on digital finance regulation.
Given that Capability implies that the correct resource requirements and skills must be present, it may appear to disfavor resource-constrained jurisdictions. However, in all jurisdictions, the building blocks of the ecosystem are already prevalent, with many actors already involved in digital finance. Efforts to turn it into a responsible ecosystem can begin with small pragmatic steps such as having a dedicated entity responsible for regulating and supervising financial consumer protection and monitoring the market, that can develop as more resources become available and as skills are built over time.
3. Collaboration involves structured and constructive relationships between actors in the ecosystem.
Collaboration needs organization and structure for it to be effective and to reduce the fragmentation in the current approach to financial consumer protection. Two types of collaboration models are needed to build a responsible digital finance ecosystem: intra-actor collaboration to enable similar actors in the ecosystem to exchange knowledge, and inter-collaboration among different actors so that they can better identify and reduce consumer risks, and in some cases better coordinate their actions.
One success story of inter-actor collaboration is in South Africa, where the market authority (FSCA) co-created indicators with providers to measure how well consumers are served and protected. Likewise, Innovation Offices and Sandboxes can help regulators and fintech innovators understand each other and take regulatory approaches that balance innovation with protection. Another notable approach is when regulators create a formal mechanism, often called a "consumer panel", to consider consumer representative voices, as is the case in the UK with the FCA and many other authorities, mostly in developed economies. The European Commission’s Financial Services Users Group (EC FSUG) wrote an opinion paper on irresponsible lending that informed the revision of the Consumer Credit Directive highlighting the need to further promote responsible lending and increase consumer protection.
As for intra-actor collaboration, digital credit provides an interesting example. Some of its risks, such as consumer data protection, might be covered by a data authority, whereas a financial authority might cover transparency of pricing. In Peru, the financial sector regulator and the consumer protection authority are developing a common framework to better listen to consumers. Digital finance providers can also collaborate through different types of private-private fora, such as the UNSGSA CEO Partnership for Economic Inclusion, where participants seek to expand responsible finance while doing business. Collaboration among consumer associations is also critical for building their capacity and influencing regulations. For example, in the ASEAN region, consumer associations support each other in their activities with GIZ funding.
Monitoring progress in building a responsible digital finance ecosystem
An essential component of a responsible digital finance ecosystem is to monitor collective progress and to measure our success in better protecting customers. Having a compliance system in place is a good start, but that does not automatically translate into value for either customers or the provider. A few years ago, we started calling for a regulatory and supervisory consumer protection framework that looks at whether customers are treated fairly and responsibly. Monitoring customer outcomes is the secret sauce that will tie the three Cs together in the ecosystem.
In a publication based on a pilot in South Africa with the Financial Sector Conduct Authority (FSCA) and five FSPs, we demonstrate that it is possible to measure what CGAP refers to as “intermediate customer outcomes” (i.e., when services are designed and delivered to give the customer what was promised, what they need, and what they can fairly expect, thereby “meeting the customer’s purpose.” These intermediate outcomes are then translated into business practices, policies and regulations, and design—and accompanied by metrics that can track progress.
While this type of measurement is still experimental, our emphasis on intermediate outcomes signals that we see a continuum of outcomes that can contribute to financial health and wellbeing and eventually lead to more resilience. This is the result of putting customers in a position where they can increase control over their financial situation and better manage financial shocks. There are also growing efforts on behalf of policy makers and providers to measure people's financial health beyond intermediate outcomes. However, we think the focus should first and foremost be on intermediate outcomes because we recognize that if a customer has a bad experience with a DFS provider right at the start of their DFS journey, there is little chance they will reach a high-level outcome.
What are the next steps to building this responsible digital finance ecosystem?
With the changing nature and growing scale of consumer risks, all actors in the ecosystem must play their part in fulfilling these three necessary conditions—Customer-centricity, Capability, and Collaboration—on which a responsible digital finance ecosystem can be built. A crucial starting point for all actors is to understand consumer risks, especially for women and vulnerable groups. Given countries' specificities, solutions will differ based on local context.
CGAP is currently testing this responsible digital finance ecosystem approach within the WAEMU region through a DFS Consumer Protection Lab. The Lab is a research project that systematically starts with consumer research. It aims to assist regional regulators, supervisors, consumer associations, and relevant national bodies in developing regulatory and supervisory frameworks, support responsible providers in embedding a customer-centric culture throughout all stages of their DFS product lifecycle, and facilitate dialogue between regulators, supervisors, providers, and consumers on responsible DFS. We are convening all the actors from the ecosystem, aiming to make it more customer-centric, capable, and collaborative.
Recognizing that a responsible digital finance ecosystem needs time and effort from all the collaborators, we are not calling for or propagating a quick-fix approach that can be implemented overnight. It is a long journey, not a race. The starting point is recognizing that we are not starting from scratch. The basis for this ecosystem already exists in most countries, and each actor in the ecosystem can develop a better focus on the customer, build capability, and collaborate with each other better.
We are in the very early stages of development of such a holistic approach. As we collectively pave the way for a responsible digital finance ecosystem, if you have an interest in digital finance, we invite you to be part of the solution. How can you promote dialogue and concrete actions that connect and strengthen different actors in the ecosystem where you work? How can you help your country or other countries develop more customer-centric regulations, supervisions and most importantly DFS? What more can we do to make the digital finance ecosystem more responsible beyond the three Cs? Just by answering these questions, you will be contributing already.