Fall 2018 Research Paper — Mobile Payments
Camryn Leibowitz, Calvin Dass, Guarav Premnath, Andres Carrion, Andrea Pun
Africa’s Growing Lending Democratization:
A Deep Dive into the new Mobile Payments Economy
In this paper, we take a deep dive into the history, potential, and likely players in African mobile payments. The upside for mobile payments adoption in Africa is the highest in the world, with countries such as Kenya seeing a significant portion of its GDP financed through mobile payments. We also examine the regulatory, political and legal ramifications of this wide-scale adoption. We look at M-PESA and Transferwise as two primary monetary transfer applications and examine their product offerings and the advantages that these offerings provide. Decreasing the cost of credit through inexpensive information transfer serves to democratize lending, with wide-ranging implications for the African and global economy.
Africa has seen its fintech sector dramatically change over the past few years. As a matter of fact, with its huge population of “unbanked” and sometimes-vast distances between cities and towns, mobile and online will unquestionably be the central to the future of banking. Given this, there is a lot of opportunity when it comes to entering the market with financial technology products and services. Nowadays, the leading tech big companies in the market are Transferwise, Western Union, Alipay, and Paypal. Also, there has been numerous startups wanting to introduce their ideas for consumers but the five leading financial technology companies in the industry are RainFin, 22Seven, Bankymoon, Bitsoko, and Lendico. All of these companies have services like peer-to-peer lendings, free investing and budgeting services, and blockchain technologies, including digital wallets.
In addition, the next phase of banking in Africa will be characterized also by the rise of regional banks and the emergence of bigger institutions, as the industry moves toward oligopoly. In the emerging scenario, technology serves as the backbone: Banks will deploy it to serve their customers and use it more to fight terrorism, fraud and money laundering — three forces that now threaten the sustainability of the banking system. Clearly, bigger institutions like banks are already adapting these services to their consumers since it does not only facilitate transactions between customers, but also helps people have safer transactions, and fight terrorism and fraud. Necessities for customers have become more complex, resulting in the need for more sophisticated and innovative services offering and products. Overall, financial technology demand in Africa is increasing and is starting to become a necessity rather than a luxury.
The Kenyan Fintech sector as outlined is the fastest growing sector in Africa. This part of the Business section will explore how technology is defining the day-to-day running of traditional businesses in the country. Many start-ups are driving innovations in mobile money. Certain prospective and existing services include mobile banking and savings, alternative funding and mobile payments. A highly-focused future prospect include practical applications of distributed ledger technology to enhance the mobile money/payments ecosystem.
The utilization of blockchain technology is becoming increasingly attractive to innovators in Kenya. The Central Bank of Kenya issued a warning on the use of crypto-currencies in 2015 due to their perceived volatility and lack of specific governing legislation. Despite this warning, interest in crypto-currencies continues to gain significant momentum, with fintech ventures such as BitPESA leveraging on Bitcoin technology to effect payments.
BitPESA is payment platform for frontier markets- markets considered below emerging markets- which has its headquarters in Nairobi. By January 2017, it became the largest licensed payment company in the UK, Europe and Africa that offers real-time settlement at wholesale FX rates to frontier markets. The founder and CEO, Elizabeth Rossiello recently tweeted about the difficulties associated with taking more than $1,000 out of her local bank account. As she further explained during an interview, she is only able to withdraw an amount greater than $1,000 in person from the specific branch where she opened her account, which is an hour and a half drive away from where she works. Rossiello also discussed an issue one of her friends recently had when transferring $1.2 million via bank wires. The funds were effectively lost for a week, and the friend lost 1,000 clients per day while the money was in limbo. As companies like BitPESA grow in emergence of handling larger transactions, they will replace banks in the intermediary role of business payment transactions. The digital infrastructure will cut traditionally high fee transfers and delays, saving businesses a fortune.
Alternative lending practices are growing rapidly in Kenya. Fintech enterprises are targeting micro-enterprises (small-scale businesses) that cannot access formal credit facilities through banks. The uptake of mobile money in Kenya has enabled alternative lenders to use this convergence of technology to reach more customers and lower the cost of obtaining credit. In the process, they have developed new ways of extending credit to the small and micro-business segments that they serve. The Banking (Amendment) Act 2016 introduced an interest cap on commercial banks’ lending, which has led to a slump in bank-lending activities and enabled alternative (mostly mobile) lending players to thrive. Payment card companies are engaging local banks with new features such as peer-to-peer transactions to harness the potential of digital payments in Kenya.
The Central Bank conducts a survey on remittance inflows every month through formal channels, which include commercial banks and other authorized international remittance service providers in Kenya. Remittances are now being recognized as an important contributor to the country’s growth and development. In 2015 the Central Bank authorized M-Pesa, offered by a Vodafone subsidiary, to undertake cross-border mobile money transfers. This further encouraged other enterprises to develop remittance services.
Generally speaking, there are no currency controls in Kenya, other than that the exchange must be effected through a registered bank or similarly regulated financial institution. Kenya became the first country in the world to sell a government bond via a mobile platform. The bond could be bought for as little as $29 directly from a mobile phone. The first bond was issued in April 2017 and was entirely taken up within 13 days. The bond, dubbed M-Akiba, as a retail infrastructure seeks to enhance financial inclusion for economic development.
Africa has been able to benefit from the technological advances from the West without having to go through the numerous stages required to reach a certain level of infrastructure. The traditional stepping stones would include going from bank tellers to ATMs, then from ATMs to Mobile Banking, and then from Mobile Banking to services like Venmo. However, due to the fact that cities like Kenya experience a vast disparity between the number of SMS enabled phones and then number of smartphones and computers available, there is a large opportunity for services like M-Pesa to enable individuals to transfer money to and from one another, pay bills, and to pay for phone credit: all through the power of SMS rather than the internet or through an app. Furthermore, it enables people who do not have the ability to get a bank account to still take advantage of financial technology.
In 2007 Safaricom launched M-PESA, the inaugural mobile banking platform, into the Kenyan market. Prior to the launch, M-PESA underwent 2 years of intense scrutiny by the Central Bank of Kenya (CBK), and in receiving their letter of “No Objection” in 2007, set an important precedent as to the future regulation of mobile banking. In initially dealing with M-PESA, the CBK did not place overly burdensome requirements on the company, but rather adopted a ‘test and learn’ approach to regulation. The CBK recognized the potential the platform had for increasing financial inclusion and knew the service would be of low risk to the financial system as, even now, despite the high volume transactions, only 6.59% of the money in the national payments system is in mobile payments. As it was left to grow relatively unencumbered, eleven years later and the service has 21 million active users. Since M-PESA’s success many other mobile payment facilitators have entered the market, and now 59% of adults in Kenya actively use mobile money products on a 30-day basis. The CBK ’s incentivizing of investment in mobile payments coupled with their adoption of a ‘test and learn’ approach to regulation, has allowed for innovation and growth within the sector, and the maintaining of stability within the financial sector at large. The same template and terms for Safaricom’s letter were applied to Zain’s launch of Zap in February 2009, Essar Telecom’s Yu Cash in December 2009 and Orange Money in December 2010.
As stated above, M-PESA was always viewed as low-risk money transfer service, however, various measures were taken by the CBK to further lower its risk profile, including:
1. Limits on the value of a singular mobile money transaction
2. Daily limits on mobile money transaction values (only two transactions at the highest transaction level permitted per day)
3. Maximum balance limits on mobile wallets
4. Risk-compliance monitoring and adherence to stringent AML/CFT policies
5. Submission of monthly regulatory returns to the CBK, including an ‘inactivity report’ of residual funds held inactive over periods ranging from >30 to >90 days.
In 2009, however, the CBK was forced to reckon with and test its attitude towards M-PESA. Members of the Kenya Bankers Association, motivated by concerns that mobile money would decrease the usage of traditional savings accounts, called out the CBK for granting favorable treatment to M-PESA. Following, the Minister of Finance issued an audit on M-PESA. After M-PESA passed the scrutiny of internal legal and risk assessments, the CBK took the opportunity to quell public concerns about mobile banking and to ensure users that the service was under government oversight. This announcement ended questions as to the legality of mobile money and confirmed the CBK’s support for financial inclusion and innovation within mobile payments.
In 2014 the CBK signed into action the NPS Regulations of 2014, which solidified the regulatory framework evolving around mobile payment systems since 2007. Such regulations have given legitimacy to the existing business models, clarified the path for future innovators and investors, whilst also handling the problems that have arisen since the launch of the services. The NPS permits both banks and non-banks to provide mobile money services and allows for mobile money business to be carried out within an existing corporation, rather than requiring it to be under a separate legal entity. This provision also allows for both banks and non-banks to provide mobile money services. The regulatory process begins with the prudential and market conduct conditions, as previously reflected in the no objection letters. The NPS also states that mobile payment agents are not only allowed but encouraged to work with multiple mobile payment services providers — this provision highlights the CBK’s overall strategy of encouragement of the sector and competition within it. Since the beginning, the CBK has been focused on customer protection and the NPS emphasized the governance and management of the trusts established to hold customer funds. The NPS clarifies that customer funds must be held in trust via a ‘strong’ regulated bank, wherein the lending or investment of such funds is not allowed. The funds are further protected from the claims of its creditors and separated from the service provider’s funds. M-Pesa is also subject to monthly status reports to the Central Bank, with an emphasis on Anti-Money Laundering (AML) and Counter-Terrorism efforts. There is a fairly robust process in place to identify suspicious customers and pass it up through the chain of command. Some of the specifics include the presenting of a national ID, a passport, a military ID, a diplomatic ID or an alien ID card or Foreign Certificate by individuals upon creation of an account. For businesses, the procedure for getting certified is more involved, and corporate accounts are scrutinized on an ongoing basis. Further, there are different levels of required training for AML regional officers and annual training for employees. These efforts are in place to comply with the Crime and Anti-Money Laundering act of 2009.
The most pressing issue in M-Pesa regulation is if a government effort to tax the informal sector will require M-Pesa to hand over account information of individuals and businesses. Kenya, like most other West African countries, has a considerable informal economy. Analysis by the World Bank Group found that 82.7% of all employment is in the informal economy, and it accounts for about 34% of GDP. Given that Kenya fails to reach the 20% GDP mobilization for tax revenue as suggested by the UN, only reaching 17% in 2017, there is a high chance that it will continue efforts to tax those who are not currently being taxed. Thomas Makau, a telecom analyst echoes this prediction saying that a privacy protection law, which would be required to prevent the government from requiring M-Pesa to hand over the records, is unlikely to pass parliament. The Kenya Economic Update presented by the World Bank Group on December of 2017 emphasized that mobilization of domestic revenue, which includes the informal sector, is required to hit the UN goal of 20% GDP tax mobilization.
Finally, motions are already being put in place to lay the groundwork for requiring M-Pesa to hand over the information. In 2016, a section of the Tax Procedure Act was amended to lay the groundwork for Kenya’s Revenue Authority to collect information in advance from selected Taxpayers for the purpose of pre-populating info in Kenya’s iTax system. Currently, Safaricom rejected KRA’s request, but most likely they will ultimately be forced to hand over the information by court order.