How Open Banking and Open Finance Enhance Financial Inclusion

 Open Banking and Open Finance are revolutionizing the financial landscape, enhancing financial inclusion by leveraging technology to provide more equitable access to financial services. These innovations are transforming how people interact with their finances, fostering inclusion for underserved populations.

What is Open Banking and Open Finance?

Open Banking involves sharing financial data between banks and third-party service providers through secured APIs, with the consumer's consent. Open Finance extends this concept beyond banking to include other financial services such as investments, insurance, and pensions.

Enhancing Financial Inclusion -Use Case Examples

1. Access to Banking Services

Open Banking enables fintech companies to offer innovative banking solutions to underserved populations. For example, in Kenya, M-Pesa has revolutionized access to banking services through mobile phones, allowing over 51 million people to perform financial transactions without traditional bank accounts. This has particularly benefitted rural populations and informal workers who previously lacked access to financial services.

2. Personalized Financial Products

By sharing financial data, consumers can receive personalized financial advice and products tailored to their needs. In the UK, apps like Moneybox and Cleo use Open Banking data to offer budgeting tools and micro-investment options, helping users, especially freelancers and gig economy workers, manage their finances better.

3. Credit Accessibility

Open Finance allows for better credit scoring models by incorporating a broader range of financial data. In India, fintech companies like CreditMantri use alternative data sources to assess creditworthiness, enabling access to credit for those with no formal credit history. This has helped millions of small business owners and agricultural workers gain access to necessary funding.

4. Freelancers and Gig Economy Workers

Open Banking helps these workers by offering tools for income tracking, budgeting, and tax preparation. Apps like Coconut in the UK provide seamless expense management and tax estimation services.

As open banking facilitates cash-flow-based underwriting, it allows lenders to extend credit to a broader set of applicants, including those who may not qualify based on traditional credit reports. This approach has significantly benefitted underserved populations, such as freelancers and gig economy workers, by expanding access to affordable credit.

5. Small Business Owners

Open Finance provides small businesses with better access to credit by using comprehensive data to assess creditworthiness. For example, Funding Circle in the UK and the US uses Open Banking data to offer quicker and more accurate loan assessments.

6. Rural Populations

In India, fintech solutions powered by Open Finance, such as Paytm and BharatPe, provide rural populations with access to financial services previously out of reach. These platforms offer payment solutions, microloans, and savings options, significantly enhancing financial inclusion.

Global Examples

• United Kingdom: The UK is a pioneer in Open Banking, with the Financial Conduct Authority (FCA) mandating data sharing among banks. This initiative has led to a surge in fintech innovation, providing more options for consumers and small businesses. According to UK’s OBIE (Open Banking Ltd), in June 2023, there were 9.7 million open banking payments made in the UK, over 1 in 9 (11%) British consumers and 17% of small businesses are active users of open banking.

• Brazil: The Central Bank of Brazil has implemented Open Banking to foster competition and innovation. By 2023, approximately 8 million Brazilian consumers are benefiting from these initiatives, with improved access to affordable financial products and services. In her book “Open Banking and Financial Inclusion: Creating a Financial System That Provides Security and Equity”, Ellie Duncan provides multiple examples of how open banking supports financial inclusion. For instance, in Brazil, truck drivers being constantly on the road can securely access the financial services they need from anywhere.

• LATAM: Payroll API provider Palenca partnered with Falabella Card to boost financial inclusion by allowing customers to apply for credit cards using personal information such as monthly income and CURP (Unique Population Registry Code)[1]
  

• Australia: The Consumer Data Right (CDR) in Australia empowers consumers to control their financial data, promoting a competitive market for financial services. According to the Treasury, 99.74% of household deposits are currently covered by the Australian Consumer Data Right (CDR) data-sharing [2], with Australians taking advantage of Open Banking services, seeing benefits in reduced fees and better financial products.

• USA: The Consumer Financial Protection Bureau (CFPB) is finalizing its Dodd-Frank Section 1033 rulemaking to establish an open banking ecosystem in the US and is expected to be published by October 2024 with important provisions for consumers that will significantly enhance security and access to financial services. Furthermore, on June 11, 2024, CFPB proposed a rule to prohibit Creditors and Consumer Reporting Agencies to obtain and use medical information including information about medical debt in connection with credit eligibility determinations.

Leveling the Playing Field

Open Banking allows smaller banks to compete with larger institutions by providing access to customer transaction and balance data. This data enables smaller banks to offer innovative, technology-based applications and tools, enhancing their competitiveness and customer retention.

The ability of smaller financial institutions to launch new products, tools, and customer benefits enabled by open banking data will drive their growth and improve customer retention. Farouk Ferchichi, Groupe President Envestnet Data and Analytics

Conclusion

Open Banking and Open Finance are key drivers of financial inclusion, providing greater access to financial services, personalized products, and improved credit accessibility. By embracing these innovations, countries can foster a more inclusive and equitable financial system, benefiting individuals and businesses alike.

[1]:source Platformable

[2] source: State of Open Banking 2024