FinTech in LATAM is Improving Socioeconomic Outcomes
FinTech is an all-encompassing term for technologies developed to improve banking and financial services which has only recently become commonplace in our vocabulary. Since the industrial revolution, there have been numerous key FinTech accomplishments that we largely take for granted. FinTech, in the scope of being “New Age Financial Services”, began in roughly 2008, after the global financial crisis created widespread distrust of traditional institutions, displaced many financial professionals, and amplified regulatory scrutiny.
Emerging markets have derived substantial benefit from these low-cost and highly efficient solutions, as evidenced by the superior share of China, India, and Brazil’s digitally active population using these services, relative to developed countries like the United States.
In this article, I will focus particularly on the Latin American region, looking at how it took cues from abroad and is making significant strides in improving socioeconomic conditions through FinTech innovation. The key dynamics that make FinTech successful in LATAM will also be discussed, relative to developed markets.
One of the principle differences in LATAM is that you need to attract a more significant chunk of the population in order to be successful, given the significantly lower value of average transactions. This has provided a natural incentive for entrepreneurs in the region to aggressively target the more than half of the population that does not have access to formal financial services. As a comparison, 6.5% of the population is considered unbanked in the United States.
Brazil’s NuBank solved this problem and became a unicorn by offering no-fee credit cards, made possible by foregoing high fixed costs of branches and inefficient, clunky institutions. Instead, their focus was solely on providing the lowest cost and most user friendly modern app that allows customers to do everything quickly and on their smartphone — activate/deactivate a card, pay bills, change credit limits, and more. Today they have over 5 million customers, most coming from the pool of 60 million unbanked Brazilians.
Another key factor is that access to credit in the region is very tight unless you are a large corporate. With micro, small, and mid-sized businesses (MSMEs) making up over 90% of the LATAM private sector, it is essential to find a way to efficiently price loans to finance them. A 2016 study found that Latin American MSMEs are less competitive than their counterparts worldwide, mostly due to a US$210 — $240B deficit in financing options.
A sea of competitors, each offering their own proprietary risk-measuring technology, has emerged as a result. Kueski and Konfio in Mexico, OmniBank and Sempli in Colombia, to name a few, have all found unique ways to leverage the local data infrastructure to bring greater price transparency and access to credit in their markets. In the US these similar types of companies did not prove to be as successful (re: Lending Club). Reason being is that there was already a high degree of liquidity present, in addition to standardized credit scoring systems. In other words, there was very little value add or differentiation offered, not to mention (in LendingClub’s case) a CEO aggressively selling cheap loans and taking inordinate risk at the rates offered to boost short-term figures.
The ability to secure collateral legally also greatly facilitates less creditworthy borrowers in developed markets. Creditas in Brazil was actually founded on this principle. By taking the initiative to navigate the complex legal bureaucracy, the company managed to setup an easy manner to pledge real estate or a vehicle to secure loans, drastically reducing rates for consumers.
Mexico has led the pack by being the first regional player to implement a legal and regulatory framework around the FinTech ecosystem, which will continue to be rolled out in two subsequent waves over the next 18 months. Primarily based on the UK’s framework, the law drastically reduces uncertainty and gives room for entrepreneurs to innovate with confidence. Some key aspects of it are:
· Establishment of minimum collateral requirements
· KYC and compliance guidelines
· Data security standards, including 3rd party assessment
· Open APIs to facilitate data access and exchange
High rates of corruption and tax evasion in LATAM make it even more necessary to transition from a cash-based system. Brazil’s Bolsa Familia Program, for instance, is one of the largest Conditional Cash Transfer (CCT) programs in the world. Modernization of its transfer mechanism has had a positive effect in reducing costs, as well as reinforcing accountability and tracking, enabled by FinTech technologies. Governments have strong incentives to further digitalize the local payments and transfers infrastructure, to improve traceability of funds and compliance.
The future for FinTech in LATAM looks very bright given the convergence of tailwinds being experienced. In just the last five years, we have seen significant improvements to financial inclusion, tax collections, anti-money laundering, corruption, competitiveness of MSMEs, and regulatory framework stemming from innovation in the sector. Taking inspiration from abroad and leveraging it to fit the demands of local markets has been the primary recipe for success. It will be exciting to see how entrepreneurs in the region can flourish with the increased capital being deployed by foreign investors to back these ventures.
