Why Credit Isn’t Working For Financial Inclusion

Just a few months ago at PYMNTS’ Innovation Project 2016, PayPal CEO Dan Schulman told Karen Webster that “financial inclusion is really about financial health.”

Acquiring that financial health means financial institutions are able to not only know, but accurately identify, their customers.

But for many financial institutions, the use of credit as a determining factor on whether to provide access to banking products or not transforms the decision from one based on identity to one based on credit – a choice that can subsequently lock millions out of the financial world.

Individuals who may not have traditional access to credit, such as millennials, immigrants, the unbanked, etc., may be unable to participate in the banking system and all it has to offer.

Johnny Ayers, co-founder and SVP of Business Development for Socure, argues that being able to have a traditional savings account or demand deposit account (DDA) is a basic financial right that should be afforded to all.

Most importantly, he said that the consideration for an individual’s access shouldn’t be focused on creditworthiness.

With very little credit risk actually at play, Ayers explained that the bank’s evaluation on offering standard traditional financial tools should really be based on the legitimacy of the identity being presented. Unfortunately for those being denied entry into the banking system, many financial institutions have yet to open their eyes to this practice.

Today, the path taken by many banks in both the U.S. and abroad is to let credit bureaus and their data remain the driver behind identity verification and knowing your customer, Ayers said, referring to KYC and Consumer Identification Programs.

The bad news is, Ayers noted, that in the U.S. credit only covers about 70 or 80 percent of the population and there are only about 15 countries globally that actually have developed credit systems in place.

What’s the solution for the rest of the world? Relying on prepaid.

Though there may be 7 billion mobile devices on the market today, Ayers pointed out that only 1 billion of those are postpaid, which shows that there are many countries around the world where there is not enough sufficient offline data to actually verify a consumer’s identity and take the risk out of a digital transaction.

Many new businesses, such as Socure, are looking to solve the problem by actually looking beyond just traditional data for identity verification. Looking at everything from email data, phone data, to online social data, Ayers said the goal is to try to get a “yes” for the identity that is proven to be an actual real authentic person.

Though it’s still a very tough problem, expanding the scope for financial inclusion can be a game-changer for an individual whose only issue is not having a substantive credit history or “thick file” at a credit bureau.

In many cases, people are being left out simply because they haven’t lived long enough to establish a credit history (millennials) or that they recently moved from a country where they had a robust credit history but were made to start from scratch when moving to a new country (immigrants).

De-risking the decision for validating an identity, when there may not be much data to validate on, may be difficult but not impossible.

“The data is available out there, it’s just about developing real-time search engines and complex identity and entity resolution engines to be able to resolve the right identity for this particular transaction,” Ayers pointed out, “so that we can say ‘yes’ to those 20 to 40 percent of people or in some countries 100 percent of people that are outside of the traditional credit databases.”

Ayers said that in the state of New York alone, there were more than 2 million people who did not have a basic bank account and were “forced to keep cash in their closet because the banks can’t and are not doing enough to say yes to them.” New York Attorney General Eric Schneiderman challenged the banks publicly to address this issue.

GETTING FROM “NO” TO “YES”

Though some big banks such as Capital One and Citi are taking the necessary steps to roll out new basic retail banking product offerings, the path to using alternative data to get a “yes” for legitimate customers is one that top-tier banks and financial institutions are just starting to move down, Ayers confirmed.

The challenge for banks really lies in finding the balance among three significant factors – fraud, acceptance and manual review – Socure thinks about these as three sides to the triangle.

As Ayers explained, the problem is financial institutions can only optimize for two sides of the triangle at any given time, so if they accept everyone and have no manual review, then fraud runs rampant. Alternatively, completely stopping fraud would mean that a bank isn’t letting anyone in the door.

Essentially, banks are left playing a “juggling act” to optimize between the three sides, but in order to truly increase acceptance, Ayers said banks must usher in new fraud tools.

“You have to look at new types of data, use new forms of machine learning, and move away from a lot of the legacy systems that are bogging down a lot of these financial institutions now,” he explained. “You have to move to a machine that’s leveraging the newest forms of prediction in order to bring down that fraud to an acceptable rate.”

But, not surprisingly, as financial institutions undertake new processes in order to say “yes” more, fraudsters are not far behind.

Ayers said cybercriminals are actually getting their hands on more of the data belonging to authentic consumers, making it much harder to differentiate between what’s legitimate and what’s fraudulent.

“As we are opening the door, the fraudsters are getting more sophisticated and thus the tools that we use to differentiate between not only saying ‘yes’ but actually predicting whether or not this person is authentic, have to get more sophisticated,” he emphasized, and do it very quickly.

As the industry continues to evaluate how to address financial inclusion and make it better, both domestically and around the world, it seems as though the best way to understand solving the problem may be seeing it in practice.

“Financial institutions will continue to run traditional systems, but increasingly think about the synergies of adding alternative data – running in parallel as they get more comfortable with replacing the legacy systems with a more updated approach,” Ayers posited.

“They know they have a problem from Day 1, it’s just helping them understand in actual practice how to leverage this new data to make better decisions.”