How access to a formal saving vehicle has helped the poor?

Having savings is beneficial in that it insures against both foreseen and unforeseen shocks (such as the death of a family member, illness or loss of a job), allows an individual to avoid paying interest when they need to borrow money (by allowing them to use money from their savings instead), can provide an individual with a small amount of income through interest accrued on savings, and can open up more options (such as allowing an individual to move to a different village, town or city).

Also, if the money is kept in a formal institution, this can help protect the money from things like theft or damage to property (such as a house fire destroying savings kept under a mattress) and can allow for interest to be accrued on those savings.

However, in many less-developed countries, most people choose to keep their money in informal saving institutions such as rotating credit and savings associations (ROSCAs), instead of in a formal saving institution, such as a bank.

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A ROSCA is a group of individuals who agree to meet at regular intervals over a defined period in order to save and borrow together, it is a combined form of peer-to-peer banking and peer-to-peer lending. Bouman (1995) refers to many African countries having very high participation rates between 50% and 95%. This suggests that, while formal institutions exist in African countries, they are rarely used. There are many reasons for this, including; the costs of opening an account are high, the client must be able to read the contract and provide proof of identity (such as a passport or national identity card which can cost several months of income), withdrawal limits mean that the accounts are seen as semi-liquid and, if a client lives in a village, they may have to travel miles to get to the bank.

These problems can prohibit the average person in a less-developed country from opening a bank account, leading to them turning to informal saving institutions.

Informal institutions have problems of their own, ROSCAs, for example, can be very risky as if a member defaults, then the entire ROSCA may collapse, so, if a member has not received their pay-out yet, then they will have lost all the money they put into the ROSCA. Furthermore, the saving rate may not be optimal for some members (they may wish to save more or less than the current amount) and as the ROSCA is not flexible (the rules can only be changed at the end of each cycle and require a unanimous agreement), members may be stuck saving money at a rate they are unhappy with. Also, as there is no interest rate over the cycle, there will likely be a negative rate once inflation is accounted for.

In Bangladesh, however, access to formal savings has had an impact on the poor, a study (Nasrin et al, 2017) on MFIs (micro-finance institutions) in Bangladesh found that the availability of financial institutions had a positive impact on the saving behaviour of people and that the number of employees and borrowers at MFIs positively affected savers. Meaning that, while many of these people were unable to save with banks, they were able to save with a different formal institution. There are many critics of MFIs, however, most of the criticisms involve the lending aspect of MFIs and not the saving aspect.

Sengsourivong and Fumiharu (2015), found that microfinance savings groups raised household income, expenditure and assets in Laos. They found that savings groups boosted educational expenditures as a major function and that, following a household joining a savings group, there was an increase in assets (suggesting villagers invested the money saved into home repair and the purchase of consumer durables). Based on their findings, they estimated that after joining a savings group, households made a shift in income sources, from traditional agricultural practices, to the raising of live-stock. They also found that households had an increase in rental income. These findings suggest that formal savings can benefit the poor greatly, assuming the formal saving vehicle is used.

Ashraf et al (2010), using a randomized controlled trial, found that a commitment micro-savings account positively impacts household decision-making power for women (for example, more money is spent on female-oriented consumer durables), self-perception of savings behaviour (females reported being more reliable savers after having opened the account) and, actual consumption decisions regarding durable goods. This means that in a household with a large imbalance in the power dynamic, access to a formal savings vehicle can help reduce that imbalance by giving the person using the formal savings vehicle more bargaining power. While pressure can still be applied to withdraw money from a savings account, there is still a formal barrier in place. Duflo and Udry (2004) found that crop revenues in Ivory Coast are labelled as either male, female or family and that shocks to one account are kept contained within that account. So, having a savings account labelled as the wife's would provide her with bargaining power to allocate those funds. Even in cases were this bargaining power would have little or no effect, the savings account can be beneficial for the women if her husband does not know about it, allowing for funds to be used as desired without the need to bargain.

A 2016 study of 321 Malawian villages (Flory, 2018) found that formal sector financial institutions raise crop investments and incomes of those that utilise them, as well as increase transfers from those using formal financial institutions to the poorest during, for example, a poor harvest when food is scarce. The rise in informal aid leads to a significant improvement in welfare indicators (particularly among the poorest), with the most significant increase being in food consumption, while health indicators also improved, with illness lasting for less time and people being more able to handle health shocks.

These findings suggest that formal financial institutions benefit even those who do not use them (due to private transfers from savers to non-savers). Therefore, even though many people do not use formal financial institutions in Africa, they may still benefit from their presence through private transfers. However, with such a low participation rate in formal financial institutions in Africa, this effect may be very small or non-existent. While the poorest in Africa may receive private transfers during times of need, the savers most likely use informal financial institutions. A study of private transfers in Burkina Faso (Kazianga, 2006), found that transfers primarily flow from affluent households to less affluent households, suggesting that private transfers have some effect on income equality (they benefit the poorest). However, the study found that transfers only respond to very large income shocks, meaning that the poor may not benefit from formal financial institutions in their day-to-day lives, only in the event of an emergency. Also, private transfers may only benefit the poor who are in contact with more affluent households, so, a very poor village without many connections to more affluent villages or cities may receive no private transfers in times of need, meaning that formal financial institutions may only benefit the poor who have more affluent friends and families.

Karlan et al (2014), state that there are five (broad) constraints or barriers to the use of formal saving devices; transaction costs, lack of trust and regulatory barriers, information and knowledge gaps, social constraints, and, behavioural biases.

A field experiment in rural Kenya (Dupas and Robinson, 2013), found that, when given the opportunity to open a savings account, 13% of the group studied refused to open an account, while 40% opened an account but did not make a single deposit. This suggests that access to a formal savings vehicle could do little to help the poor as many choose not too take advantage of them. The study also found that 40% of female market-vendors chose to open a savings account with a negative interest rate, implying that female market-vendors may face severe saving constraints, meaning that an account with a negative interest rate may have a higher rate of return than any alternative saving methods. The women opened savings accounts and made deposits into those accounts used the money to expand their businesses and increase their private expenditures, meaning that even with a negative interest rate, access to a formal saving vehicle benefited those women. The study also involved bicycle-taxi drivers (all of whom were male). None of these taxi drivers used the savings accounts, suggesting that they may have been able to save already or that they have present-bias preferences.

A 2012 study (Dupas et al), which involved giving access to various savings methods to a group of people in Kenya, found that those with a present-bias (predominately men) require more than an individual commitment savings device (such as a personal savings account) in order to save money effectively. While present-biased people enthusiastically accepted a simple lockbox, for example, to deposit their savings in, many failed to save more than a little, implying that for present-biased people to save money, some degree of self-control or social pressure is required. This means that ROSCAs, for example, can be very effective methods of saving for those with a present bias, however, there is no formal equivalent of a ROSCA (with social pressure being the main method of ensuring payments are made), so, present-bias people are very unlikely to save using formal savings institutions. Similarly to how people may buy a gym membership and then fail to use it enough to amortize the cost, people in less-developed countries may sign up for a commitment savings account and then fail to make any deposits.

Coup? (2011) looks at data from the FINREP Ukraine survey and finds that more than 50% of the sample save in cash at home, with those who have a low trust in banks (self-reported) being 10-15% more likely to keep all their savings in cash. This suggests that trust can have a large impact on participation rates of formal saving devices. So, if the general public do not trust banks with their money, for example, very few people may choose to use bank accounts. This is a possible explanation for why so few people in Africa have bank accounts (Dupas et al. (2012) in western Kenya, using a sample of 1565 unbanked individuals, found that, while 62% chose to open a free savings account, only 18% showed active usage). and instead choose to use informal saving devices such as ROSCAs.

In conclusion, access to formal savings vehicles benefits the poor through; increased production and investment in agriculture, impacting empowerment and decision making, private transfers from savers to non-savers in times of need and, promoting entrepreneurial investment. However, the benefits of formal savings vehicles are reduced due to low participation rates caused by barriers and constraints such as transaction costs, lack of trust and regulatory barriers, information and knowledge gaps, social constraints, and, behavioural biases. In order to improve this government could consider ad campaigns promoting saving money (to reduce knowledge and information gaps) or providing government subsidies to banks (to improve trust, assuming the government is trusted more than the formal savings institutions), while these methods could be costly, the outcome would greatly benefit the poor.

Bibliography

• F.J.A Bouman Rotating and accumulating savings and credit associations: A development perspective 1995.
• S. Nasrin, A. Baskaran, R. Rasiah Microfinance and savings among the poor: evidence from Bangladesh microfinance sector 2016.
• K. Sengsourivong, M. Fumiharu Impacts of Savings Groups Programs on Household Welfare in Laos: Case Study of the Vientiane Vicinity during the Mid-2000s 2015.
• N. Ashraf, D. Karlan, W. Yin Female Empowerment: Impact of a Commitment Savings Product in the Philippines 2010.
• E. Duflo, C. Udry Intrahousehold Resource Allocation in CTE D'IVOIRE: Social Norms, Separate Accounts and Consumption Choices 2004.
• J. Flory Formal finance and informal safety nets of the poor: Evidence from a savings field experiment 2018.
• H. Kazianga Motives for Household Private Transfers in Burkina Faso 2006.
• D. Karlan, A.L. Ratan, J. Zinman Savings for and by the poor: a research review and agenda 2014.
• P. Dupas, J. Robinson Savings Constraints and Microenterprise Development: Evidence from a Field Experiment in Kenya 2013.
• P. Dupas, J. Robinson Why don't the poor save more? Evidence from health savings experiment.
• T. Coup Mattresses versus Banks The effect of trust on portfolio composition 2011.