We recently had an opportunity to sit down with Dr. Edgar Aragon to discuss his research on the public policy challenges of microsavings as a tool for expanding financial inclusion in the Mexican context. His work is a part of the EU funded research project “Nopoor”, which explores the dynamics of poverty and seeks new innovative methods to improve living standards in Africa, Asia, and Latin America. The project brings together more than 100 scientists from all over the world whose work informs evidence-based policy advice targeting the alleviation of poverty and supporting the development agenda of the European Union. As the Nopoor Work Pack Leader for Policy Recommendations, his research has also focused on the policy process behind the formation of the Mexican vocational dual education system.
Dr. Edgar Aragon is the visiting professor for public finance at the Willy Brandt School and poverty alleviation and industrial development has been a central component of his work in academia and the private sector. He holds a PhD in City and Regional Planning and a Masters of Public Administration from Cornell University. In addition to his work with NoPoor, his research interests include cluster development policy for regional development, with a focus on how to attract and keep foreign direct investment within a free trade context and upgrade clusters to higher value-added activities as a strategy for sustainable growth and higher living standards.
Prior to his visiting position at the Brandt School and his work with NoPoor, Dr. Aragon was the Director of the Economics and Public Policy Master’s program at the Graduate School for Public Administration and Public Policy at Tecnologico de Monterrey, Mexico, from 2002 – 2008. During his tenure, his work focused on conducting socio-economic evaluations of public programs, such as lending to small and medium sized enterprises, the social provisioning of milk, and water infrastructure in Mexico. Before 2002, he worked in the private sector as an economic and financial consultant in Mexico City and Leuven, Belgium. These experiences have influenced his research approach and policy perspectives, as he believes cooperation among stakeholders, including private sector actors, is essential for solving public policy issues.
The Bulletin: How did you first get involved with research on financial inclusion in Mexico?
Dr. Edgar Aragón: During my time with Tecnologico de Monterrey, we put together a seminar on poverty alleviation together with our colleagues at the Harvard Kennedy School of Government. We identified microfinance as a relevant topic for poverty alleviation and public policy and discussed how we could build the capabilities of decision makers in Mexico. As a result, we held a conference that brought together the major stakeholders in Mexico, including banks, microfinance institutions, regulators, and academia. It was the first time the stakeholders were together in one setting to discuss the bigger picture.
Why were you specifically interested in microsavings as a tool for expanding financial inclusion?
Microfinance arrived late in Mexico and it was popular at that time to focus on microlending because a lot of work had already been done internationally. Microlending in Mexico developed very quickly and it generated several problems. A lot of private entities entered the market and had great success. However, many people became indebted from generating too many loans that they were unable to repay. High interest rates further complicated the issue. A debate on regulation emerged and revolved around letting the market operate or stepping in to control interest rates. So even though it was a good tool, I think it was misused.
Microsavings is a financial tool that had not yet been well developed and it could be a better alternative to microlending because it allows you to build your own assets, rather than become indebted with several financial institutions that are trying to maximize profits with high interest rates. Instead of taking out a loan now and repaying over time plus interest, why not make small deposits and accumulate savings to pay for what you need in the future, without paying interest? People normally ask for a loan when they have a need and it’s used for productive purposes to generate income, but that’s not always the case. The money is often used for other purposes, so if you’re not generating income it becomes more difficult to repay the loan. The microfinance firms didn’t really care if you were actually setting up a business, as long as you could pay back. So microsavings emerged as an alternative to the overemphasis on microlending at that time. It offers the poor more freedom to choose how to spend their money and to save for specific purposes, which can help mitigate external shocks that typically keep or push people into poverty.
How did microsavings services develop in Mexico and what were some of the issues encountered?
One of the most important developments from a public policy perspective was when anti-poverty cash transfer programs, mainly Oportunidades, began using electronic accounts and debit cards to transfer money to the poor and other beneficiaries. The program to deposit cash transfers into people’s accounts was partly developed with funding from the Bill & Melinda Gates Foundation and offered bank cards which beneficiaries could use to access funds at government run Diconsa stores. These stores are located in remote locations where many poor Mexicans live and have little access to financial services, often having to travel for a full day to the city to receive government cash transfers prior to the pilot program. This created an opportunity for millions of people to have bank accounts, and with regular deposits, it would have allowed them to save and build their assets. However, the program wasn’t able to achieve this because rules basically required recipients to empty their accounts to show proof of life. Having a bank account is just the first step toward financial inclusion, because even though you may have access to the system, you need to have financial services you can use. In this regard, microsavings faces some of the same issues as microlending. The banks don’t offer services the poor want or need and it’s really difficult to figure out exactly what they need.
Simultaneous to this development, the private sector began to create a market for microsavings services through a number of “disruptive business models”. One such model consisted of partnerships between formal banks and convenience stores. For example, Banamex partnered with OXXO convenience stores to create the Saldazo debit card that could be easily acquired and allowed up to $900 USD of savings per month. The card could be used for services such as buying cellphone airtime and paying utility bills, as well as for transferring money to friends and family members. New legislation allowed the linking of cards to mobile banking platforms and access to new services such as being able to use cellphones as electronic wallets. This also allowed the collection of data on consumer behavior by private operators, thus giving insight into the needs of the poor and customizing the services even more. Mobile providers also have the potential for expanding financial inclusion beyond urban centers where competition in the private sector has created opportunities for the poor. However, the challenge has been the number of mobile banking platforms created by competing interests on different networks and the fight for market share, rather than firms following the cooperate and compete model. This has hurt profits which are achieved through a high volume of transactions.
Some people have raised concerns that microfinance institutions are predatory and exploit the poor for financial gain. Do you believe these accusations have any merit?
Yes it’s true, but this is a market and if you create the proper rules for the market then the institutions will compete amongst themselves, thus bringing down interest rates and increasing the number of services offered. Consumer protection and financial education is also very important. Some of these things have begun to happen in Mexico, but there are still no limits on interest rates and consumer protection is not as well developed as in other countries.
What has been the biggest challenge for the government to regulate the microfinance industry to ensure people aren’t being exploited?
Formalizing microfinance institutions has been and will continue to be the major challenge for regulation. This is because of our lack of understanding of the needs of the poor and the informal economy. Technology has been developing at a faster rate than ever before with the rise of Fintech, which has created new challenges for regulation. You need policy makers who understand this and understand the behavior and needs of the poor. Without being formalized, microfinance institutions can only offer loans and not microsavings services as a way to protect the investors. This disproportionately affects people living in rural areas where access to formalized institutions that offer microsavings services are practically nonexistent.
What obstacles must Mexico overcome to successfully formalize microfinance institutions?
First off, it’s essential to increase the capabilities of the microfinance institutions so that they can comply with the regulations in order to become formalized. Mexico had some success doing this by setting up semi-regulators that provide training, but it has taken many years because of the lack of knowledge of the informal economy. Matching regulation for the telecom and banking industry has also been a struggle, because they are both involved in providing these services and there are currently separate regulators for each. This is something that has to be addressed. Lastly, congress is divided as a result of powerful stakeholders lobbying for different interests, such as the banks and telecom companies. There isn’t a single view on how to move forward and this has slowed down progress. Mexico needs leadership, which implies many things, such as involving the stakeholders and lawmakers, controlling natural monopolies, and putting the issues at the top of the agenda, rather than simply letting the market operate on its own.
Financial inclusion continues to grow as an issue on the international political agenda and has been included in the UN Sustainable Development Goals, but progress in this area continues to be difficult to achieve. Why do you believe it has been so difficult?
Well the issue of formalizing the institutions continues to be a major challenge, especially without the knowledge of the needs and behavior of the poor. The lack of cooperation among stakeholders to create a single network and then compete for the market is also a major issue. There are many powerful stakeholders lobbying for their own interests and this divides government on how best to move forward. In this case, you cannot let the market operate by its own, financial inclusion is in a way a market failure.
Is there any country in particular that you feel has done well promoting financial inclusion through microfinance services that other countries can look to as a model?
I believe Peru has done a great job. The central bank and the national bank association in that country took the leadership to cooperate and create one network to compete. However, microsavings as we know it seems to be out of date now. It still exists worldwide with plenty of issues, but the focus should now be on mobile banking and electronic wallets, because the poor all have access to mobile phones, which would allow everyone to be reached. Governments could make an even greater impact with anti-poverty cash transfer programs by making them electronic like what was originally done in Mexico, except this time make the cards usable and include them on the network with customized services for the poor!
For further information please go to…
- Policy Brief
- Working Paper