Financial Inclusion Won’t Work Without Financial Literacy

There has been a lot of discussion among policymakers over the last year or so about how to bring more people into the financial system — equip them with bank accounts, help them establish credit records, and otherwise help them participate more meaningfully in the broader economy. While efforts to enhance financial inclusion worldwide have been going on for some time, recent enhancements in technology have opened up new possibilities to serve unbanked and underbanked populations. Moving more people into the financial mainstream will not only boost prospects for them but will also open current unbanked and underbanked individuals to additional financial products and services — a potential boon to financial services firms and economic prosperity overall.

It’s important to note, however, that financial inclusion and financial literacy are not one in the same. Simply improving financial inclusion does not necessarily mean you’ll improve financial literacy. As governments continue to champion efforts to bring more people into the financial fold, it’s time to ask: Are efforts adequate to ensure consumers can properly understand and use the financial products and services to which they’re being introduced?.

Over the last few years, roughly 700 million adults worldwide have been brought into the financial system, bringing down the total number of unbanked global citizens to roughly 2 billion. The vast majority of the unbanked reside in developing countries. Developed economies, such as the U.S., have a significant share as well. Roughly 10 percent of Americans are without access to the formal financial system, according to recent remarks by U.S. Consumer Financial Protection Bureau Director Richard Cordray. The World Bank and a diverse group of partners have made it a goal to achieve universal financial access by 2020 through public-private collaboration, part of an effort led by the United Nations to end extreme poverty by 2030. The World Bank itself is intent on bringing 1 billion of those individuals that remain unbanked into the financial mainstream through the introduction of transaction accounts.

Source: The Global Findex Database 2014: Measuring Financial Inclusion around the World

Of course, simply opening an account does not mean that a previously unbanked person will fully engage with the new financial opportunities available to him or her, as India’s efforts to drive inclusion have shown, for instance. Both Chris Elias, the president of the Global Development Program at the Gates Foundation, and Ajay Banga, President and CEO of MasterCard, correctly pointed out at a World Bank event in April 2015 that simply having an account doesn’t equate to financial inclusion. “We have to drive deeper usage of those accounts so that people, poor people, women, young people, actually capture the value of financial inclusion,” said Elias. “It’s the usage of the account that truly determines whether you have become financially included or not,” added Banga.

While moving more people into the financial mainstream is a noble goal that should be pursued energetically, what’s often missing from the conversation is the extent to which unbanked, underbanked, and even banked individuals understand what they’re getting into or what they’re being offered. Globally, nearly two-thirds of adults are financially illiterate, according to a recent S&P report, Financial Literacy Around the World, with the poor and less-educated individuals in both developed and developing economies — those that are being targeted for inclusion — more likely to suffer due to a lack of financial acumen. In Asia, a region ripe for financial inclusion, 12 of the 16 Asia Pacific nations registered declines in literacy rates, according to the Mastercard Financial Literacy Index, with the Index itself marking its fourth consecutive decline. Moreover, a 2009 report co-authored by the World Bank found that declines in financial literacy rates can be “very detrimental” to consumers, leading to weakened financial markets and exposing consumers to significant financial risks.

Source: Financial Literacy Around the World: Insights from the Standard & Poor’s Ratings Services Global Financial Literacy Survey

While governments and international bodies often focus their communications on reaching numeric financial inclusion goals, financial literacy is still a priority, even if survey results don’t show it. Officials have rightly recognized that financial inclusion and financial literacy, though distinct, must go hand-in-hand. As Alexia Latortue, Deputy Assistant Secretary for Development Policy at the U.S. Treasury said at a recent Treasury Financial Literacy and Education Commission meeting: “Improving access is not our ultimate goal. The ultimate goal is actually effective usage on the part of customers,” she said, adding, “if you can take access, and you have literacy, then you really get to the effective usage that can really help people transform their lives.”

If we are truly committed to the long-term wellbeing of unbanked and underbanked individuals and to a financial system that can respond to these new entrants without inadvertently leading them to financial ruin, simply saying “Mission Accomplished” when numeric goals are met won’t cut it. The unbanked need to understand what they’re being offered, and financial literacy is essential to ensuring they can adjust to their new financial realities and expand their use of financial services beyond a simple transaction account. Financial inclusion and financial literacy may be distinct terms, but both are needed if we truly want to see the end of the “unbanked”.

This post originally appeared in the Milken Institute Currency of Ideas blog.