Evaluating the Impact of Inclusion: The Macroeconomic Picture
Recently we wrote about the transformative effects of financial inclusion at the microeconomic level. We concluded that the use of each financial inclusion instrument leads to varying positive outcomes on individuals, households and small businesses, and should be promoted equally if we want to trigger major progress in the lives of the unbanked. While it is relatively easy to extrapolate these microeconomic impacts given the body of randomized control trial evidence, it is harder to determine the results of financial inclusion at an aggregated macroeconomic level. Recently, a growing body of literature around this topic has emerged and we have examined this closely to better understand the impact financial inclusion can have on a country’s macroeconomic health.
WHAT THE EVIDENCE SAYS
Growth: There is a positive relationship between increased financial intermediation and growth, a relationship that goes beyond simple correlation to causation. Evidence suggests that the relationship between financial inclusion and GDP growth is best represented by an inverted U shaped curve where any positive gains disappear at very low levels of inclusion and very high levels of inclusion. Increases in inclusion tend to be especially beneficial for the growth of industries which have low tangibility of assets such as software.
Stability: Stability and financial inclusion are positively related as long as both are addressed in tandem as key goals of the relevant governing body. Thus for example increased stability would foster trust in the financial system and lead to increased deposits. This relationship also holds in the converse; even a 10% increase in deposits could decrease the chance of sudden large scale withdrawals in an emergency situation by 6 percentage points.
Inequality: Furthering financial inclusion can reduce income inequality. This happens because the credits constraints on the poor – such as low access to collateral and connections – are disproportionately reduced. High income individuals tend to face relatively lower constraints even in a state of low financial inclusion. Furthermore, increased inclusion boosts the growth of the income share of the poorest people in the country. Intriguingly inequality decreases with greater financial inclusion regardless of whether it is promoted in the formal or informal sector.
Poverty reduction: There is a strong inverse correlation between financial inclusion and poverty in emerging markets in Asia. Research indicates that financial inclusion accelerates the rate at which of the segment of the population that lives on less than USD 1 a day reduces, even when controlling for growth and other country characteristics.
WHAT THIS MEANS FOR PAKISTAN
Given the enormous potential for financial inclusion to positively impact Pakistan’s macroeconomic landscape and developmental progress, the government’s emphasis on a National Financial Inclusion Strategy is well founded. Additionally, this review has uncovered an important truth: not only is it important to identify universal financial inclusion as a key goal but that the manner in which this goal is achieved is equally important. We will be discussing some of the key recommendations that have emerged out of our literature review in regards to rolling out a financial inclusion agenda within the context of Pakistan’s own social structures in the coming week.