Around 50% of African adults don’t have any form of bank or mobile account. This number has been declining gradually, but there is still a long way to go.
Digital financial services are currently proliferating across Africa, paving new routes to a more inclusive landscape. But what are they up against?
What are the barriers to finance in Africa?
In 2017, 43% of adults in Sub-Saharan Africa had either a bank or mobile money account, up from 34% in 2014. And whilst adoption of traditional banking services is slow and has risen only by 4% since 2014, the share of people with a mobile money account almost doubled to reach 21%.
Despite the visible growth, the financial exclusion rate is still very high due to various factors:
- High costs of financial products
- Unreasonable distance from bank branches
- Lack of trust in traditional institutions
- Low financial literacy
- Limited credit system
- Prejudice against certain groups
In addition to this, some financially excluded people may not even have enough income to actually need a bank account in the first place.
But these barriers aren’t limited to individual consumers. Africa’s informal business sector, which accounts for almost 90% of the economy in Sub-Saharan Africa, is the largest in the world. Informal SMEs, which are mainly represented by the agricultural sector, struggle to access basic traditional banking services.
The above factors have resulted in a growing use of informal financial services in Africa, especially among the most vulnerable groups. But most forms of informal finance do not provide opportunities for financial growth and in fact present various risks.
This is why several African countries have turned to mobile money (specifically M-Pesa) to send and receive money offline without going through arduous and time-consuming processes at banks. In 2020, mobile money accounts in Africa grew 12% to reach 562 million registered accounts, boosted by the COVID-19 pandemic and consequent lockdowns.
How can Open Banking transform financial services in Africa?
M-Pesa gave Africans a way to send money to distant places without connecting to the internet. But the opportunity for digital finance in Africa extends well beyond mobile money.
Adedeji Olowe is a trustee at Open Banking Nigeria, a non-profit driving the development, dissemination and adoption of open APIs within the Nigerian financial industry.
“Open banking would allow non-banking Fintechs to easily open accounts for those financially excluded, as they are able to go where banks do not want to go,” says Olowe.
Let’s take a look at the previous barriers.
High cost of financial products
Digital finance solutions are generally cheaper than traditional banking services. Among other reasons, generation Fintech platforms have an average cost base that’s 60% to 70% lower than legacy banks, allowing them to reduce prices and keep fees to a minimum.
Unreasonable distance from bank branches
Fintech providers are often branchless. Although physical bank branches may be useful if face-to-face interaction is needed, digital onboarding could benefit Africans living in rural areas, who accounted for over 50% of the entire population in 2020.
Lack of trust in traditional institutions
Being the new kid on the block has its benefits, especially in terms of learning from previous mistakes. Emerging Fintech companies are embracing values such as transparency and openness, building trust among their clients.
Low financial literacy
Financial literacy influences a person’s spending and saving behaviour, as well as their use of financial products. Financial literacy is also associated with a higher awareness of and tendency to use Fintech products.
Interestingly, these same Fintech products can boost financial literacy. Fintechs use AI and machine learning to provide ‘robo-advisors’ that can help people manage their money and learn in the process. In addition to the practical experience, many apps provide educational content to help users learn more about their finances.
However, without complementary activities in other areas, it may be difficult for those with low financial literacy to even consider digital finance services.
Traditional lending has relied mostly on face-to-face meetings with loan applicants. But a loan officer’s final decision may be influenced by their subconscious (or indeed conscious) bias against certain minorities.
Fintech solutions use AI and machine learning algorithms to determine a borrower’s ability to repay the loan. Although it’s of course possible to transfer human bias to AI models, this new method eliminates much of the inherent bias that exists in the traditional model and relies overall on more objective parameters.
Limited Credit System
Banks in Africa traditionally have difficulty granting loans to SMEs and consumers. In addition to there being no credit bureaux in the country, banks often lack basic background information about an individual or business.
Fintech solutions don’t rely solely on credit scores to grant loans. Fintech lenders use big data and machine learning to find patterns, such as mobile phone usage or payment data, to paint a detailed picture of the potential borrower and their behaviour.
So instead of refusing a loan due to lack of credit history, banks can use transactional data to provide insight into the borrower’s true ability to repay the loan.
These developments are not ‘pending’ or ‘future’ – many of these advances are already happening, both around the world and particularly in Africa.
What’s the current status?
Open Banking is taking hold, with some regulators planning a framework and others already developing common standards.
In West Africa, Open Banking Nigeria has been working with the Central Bank and other top industry stakeholders to build an interoperable open banking ecosystem in Nigeria. The CBN issued its regulatory framework for open banking in Nigeria and is in the process of developing operational, technical and security guidelines.
“The market is extremely excited about the possibilities of open banking in Nigeria. In fact, Open Banking Nigeria is backed by all the major Fintechs and the Big 4 banks within the country,” says Olowe. However, he also shares that this enthusiasm is being tempered by the delay in releasing the standard itself.
In East Africa, regulators in Rwanda and Kenya are also trying to identify the right approach for their countries.
But out of 54 countries, over 40 have yet to establish or plan some form of open banking or Fintech framework to assist the financial system’s transformation. This has led banks, mobile money providers and Fintech startups in some regions to pave their own paths.
In Tanzania, NMB bank launched the country’s first Fintech sandbox to provide a safe environment for local startups to develop their ideas.
Tala, a Silicon Valley-backed fintech in Kenya, is using advanced machine learning to grant loans to people who have never had a formal credit history. Branch, active in Kenya, Nigeria, and Tanzania, has a similar value proposition.
Moving away from lending, Nigerian saving and investment platform Piggyvest announced that it paid over 242 billion Naira to 3.5 million customers in 2021 alone.
Ghana-based Dash is addressing another challenge. The startup is enabling a more interoperable payment network that allows users to transfer money between mobile money and bank accounts.
The Fintech scene is also growing in the quieter Francophone Africa, albeit with less regulatory flexibility and support than in Anglophone regions.
This widespread enthusiasm is also reflected in the growing investments seen in recent years. According to Digest Africa, African fintech firms raised USD 906 million in Q3 of 2021, which represents more than 60% of all venture capital invested in Africa during that time.
But it’s not all sunshine and rainbows. The African landscape is still missing the regulatory foundation and technical infrastructure that can help the continent ‘leapfrog’ towards a more inclusive and innovative financial services sector.
What are the challenges?
The biggest inhibitor of growth so far seems to be the lack of regulatory clarity surrounding digital financial services. This seems to be changing, with a number of regulators collaborating with the market to define what needs are to be addressed.
But designing a framework to regulate data sharing within the financial services industry is no child’s play. In addition to protecting consumers and ensuring fair interactions, regulators must avoid stifling innovation.
There are a few common challenges that regulators face, including:
- finding the correct approach for their specific region;
- keeping up with evolving tools and methodology used by cybercriminals;
- deciding what standards to build on;
- determining which institutions should fall within the scope of a regulatory framework (especially where boundaries between sectors are blurring).
Overall, it’s very difficult to know where to start to evaluate which approach would benefit the local banking system. Regulators will have to weigh several factors – such as strategic direction, regional government policy, and localised market conditions – to decide what approach is best for their specific region.
But even with the correct guidelines in place, will Africa be able to transition to an interoperable financial system?
Transition may not be as smooth as some claim. Olowe shares that “Making APIs to drive financial services involves a lot of good infrastructure, which Africa struggles with at this time.”
Although Africa has demonstrated the ability to innovate in certain areas at a faster pace, closed legacy systems are still a significant barrier for most institutions.
Open Banking has the power to make finance more accessible for everyone in Africa. The open banking movement has evolved to be not only a force for inclusion but also an opportunity for growth for consumers, Fintechs and banks.
In growing economies still recovering from the crippling experiences of the past, will open banking be the stepping stone to a more inclusive financial system?
This will depend on the sector’s ability to collaborate, to learn from other countries’ best practices and mistakes, and to move beyond the legacy systems and processes that have hindered its growth until today.