A FAB idea?

By Felix Salmon
March 23, 2010
Matthew Bishop has a short piece on a new campaign called FAB, for Financial Access at Birth: the idea is explained in more detail here.

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Matthew Bishop has a short piece on a new campaign called FAB, for Financial Access at Birth: the idea is explained in more detail here.

We propose that starting November 11, 2011 (11/11/11), every child born in this world will start life with a Financial Access at Birth (FAB) bank account. The opening of these “FAB” bank accounts would be integrated with the official birth registration process and perhaps with electronic banking. Governments, with the help of institutional/individual donors will make a deposit of US$100 in each FAB account.

On its face, the idea is a great one. It helps bring financial services to everybody: both newborns and their parents can benefit from having access to that bank account, and even if the initial $100 is untouchable until the child reaches the age of 16, the account can still be used in the interim by making deposits and withdrawals. And if there’s $100 in it for anybody who registers their child at birth, the world’s poorest children are much more likely to be known to their governments and whatever instruments of the social safety net exist. What’s more, once the bank accounts are set up, philanthropists both large and small can easily transfer money directly into them, bypassing financial intermediaries altogether.

The campaign was founded by Bhagwan Chowdhry, a finance professor at UCLA, whom I met on Sunday evening. He told me that former Mexican finance minister Francisco Gil-Diaz was on his board, and that got me reasonably excited, since Mexico is the obvious first place to try this scheme out. For one thing, Gil-Diaz is smart, well-intentioned, and powerful: a very potent combination indeed. Secondly, Mexico has a relatively low birth rate, which means that the cost of the scheme would be pretty modest there: with about 2.1 million births per year, the total deposits would only be about $200 million annually. The Mexican government could cover that sum easily. Thirdly, Mexico has large amounts of internal inequality, and a relatively weak federal government: this would be a good way of effectively transferring wealth from the richest parts of the country to the poorest. And finally, Mexico suffers from having a very small tax base and a very large informal economy; this would help to formalize a large part of the population over the course of the next couple of decades when Mexico’s oil revenues are going to continue to dwindle.

But I see problems with the FAB idea too.

Firstly, it’s not at all obvious whether any depositary institutions are both willing and able to open and manage bank accounts for millions of newborns. The poor are unbanked largely because banks don’t want to bank the poor: it’s not profitable for them. And governments tend to have severe restrictions on which institutions are allowed to take deposits: that’s one reason why microlenders often don’t do that. (And, of course, it’s a reason why unregulated mortgage lenders were a large part of the financial crisis, but that’s another story.)

The technology for banking the poor is improving fast, and often includes cellphones; in many cases, the cellphone providers themselves are the obvious providers of banking services. But in most countries that isn’t allowed. Meanwhile, the big international banks who might have interest partnering with FAB are very unlikely to actually want to manage millions of tiny bank accounts themselves.

Secondly, it’s still hard and expensive to transfer money internationally. Here’s Chowdhry:

Imagine further that your teenage daughter Emily decides to contribute $10 a month for Krupa for her college education. Krupa’s initial $100 deposit plus a $10 a month contribution from Emily accumulates interest until Krupa turns sixteen. At a (real) interest of 4% a year, Krupa would have accumulated nearly $3000 or Rupees 150,000 that can pay for her college education in India.

We are still a very long way from a world where a $10 deposit can wing its way from a US bank account to an individual’s account in India without being wiped out by transaction and currency-conversion fees along the way. And we’re equally far from a world in which a bank account with just $100 in it can predictably pay a 4% real rate of return — especially not in dollar terms. I’m pretty sure that’s never going to happen, and that it never has happened, either. Bank accounts simply aren’t things which pay positive real rates of interest, especially not positive real rates as large as 4%. If you can find a bank account paying just 0% in real terms that’s quite an achievement, most of the time.

And the IT infrastructure needed to put this scheme together is very likely to cost much more than the $100 per newborn that actually gets deposited into the accounts. Chowdhry was talking with great optimism about a plan in India which might cost as little as $5 per person, but I’ll believe it when I see it: enormous nationwide technology projects always cost insane amounts of money, and almost never come in on time and on budget.

Thirdly, Chowdhry is a bit confused, I think, about the whole question of which currency these accounts are going to be in. He talks about them being seeded with “US$100″, but if they’re dollar-denominated, that essentially means that the deposits have to leave the country and travel, ultimately, to the US. (It also means there’s no chance in hell of them earning a 4% real rate of interest.) Worse, it makes it very hard for the owners of the accounts to make deposits and withdrawals, which is a large part of the reason for setting up the accounts in the first place.

So it makes more sense, and it’s certainly more intuitive, for the accounts to be denominated in local currency instead. The problem then, of course, is that they’re utterly exposed to the risk that the local currency will be eroded away by inflation and/or devaluation to the point at which the initial deposit becomes worthless long before the child’s 16th birthday. Currency crises are, sadly, quite common things in poor countries: even Mexico has had two big ones over the course of Gil-Diaz’s career. And during a currency crisis, small locally-denominated bank deposits tend to be hit very hard indeed. Many of the world’s poorest would be much better off with 10% of a cow than they would with the local equivalent of $100 in the bank: real property can’t devalue like money can.

More generally, the FAB campaign seems to be operating in something of a vacuum: rather than trying to coordinate closely with international development institutions like the World Bank or the Inter-American Development Bank, it’s barging ahead on its own, largely oblivious to whether or not the campaign is actually being helpful in the broader development context. Access to financial services is indeed a key part of any development agenda, but it should ideally be deeply integrated into that broader agenda, I think, rather than being freelanced by US finance professors with a bright idea. Chowdhry and the rest of FAB’s board are undoubtedly well-intentioned, but that alone gets you precisely nowhere in the world of development, as we’ve seen many, many times in the past.

My feeling is that this whole scheme has been dreamed up by a group of rich men who live in a world where people can just walk into a bank and open an account and put money in it and have that money be safe there. Their dream is of a massive top-down project which gets implemented on a country-by-country basis. But that’s not the world that most people live in. And when it comes to successful development projects in the realm of financial services, it’s the schemes at the other end of the spectrum which often work the best: the ones targeted at women, which are built from the ground up, and which get rolled out slowly on a village-by-village basis. Those schemes aren’t as ambitious, but at least if they break they don’t end up costing billions of dollars.

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3 comments so far

1. Yes, Mexico will be a great place to start, for many of the reasons you described.
2. Regulators are often worried about mixing lending with savings, but perhaps the case for deposits with mobile banking is stronger.
3. Technological improvements are making costs smaller every day – a recent paper by William Jack and Tavneet Suri estimates costs as low as 1% for M-Pesa.
http://mitsloan.mit.edu/newsroom/2009-su ri.php
4. Yes, leaving deposits in local currency is subject to currency risk but the entire country is subject to the same currency risk – not just FAB accounts.
5. FAB is not barging ahead on its own and in a vacuum – FAB launched only a week ago and is seeking partnerships and lessons from others on its website http://FABcampaign.org.

Posted by bhagwanUCLA | Report as abusive

Bhagwan, thanks for your reply! I don’t think that regulators are ever worried about mixing lending with savings — in fact it makes almost no sense to have an institution which takes deposits and can’t lend. The problem is just with having savings, that’s all — you don’t want people opening up bank accounts with people who just take the money and run. When you have deposits, those deposits have to be protected, and that’s the government’s job, and the government doesn’t want risky TMT companies taking deposits because what happens if they go bust.

Felix, my point was because the government is worried about protecting savings, they have usually balked at microlenders from taking deposits. Yes, savings will need to be protected using deposit insurance and other mechanisms. My op-ed piece from many years ago http://www.financialexpress.com/old/prin t.php?content_id=69055

Posted by bhagwanUCLA | Report as abusive
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