In nearly all countries, the regulation of Mobile Financial Services (‘MFS’) falls to the local Central Bank. If you take any issue to a central bank, you are likely to receive a regulation developed by someone skilled at dealing with serious risks to the safety and soundness of the national financial system – precisely the sorts of risks that MFS almost never pose.
So here lies one challenge to the growth of MFS in developing countries – the tendency of central bankers to regulate this nascent industry too heavily. There are many other challenges, including the understandable tendency of major providers to want to roll out identical products across a wide range of dissimilar markets, the unwillingness of product developers to get out and sit with potential customers in villages to learn what they really need, and the multitude of difficulties in providing reliable financial services to poor people in poor countries often lacking reliable infrastructure, but our research focuses on how to strike the right balance in regulating MFS.
This matters, as financial services delivered over mobile phones are key to improving financial inclusion in developing countries, especially of the poor living outside major cities. These services are often unlikely to be provided by banks, as few banks anywhere focus on services for the poor, and the absence of physical banking infrastructure in rural parts of developing countries is a major obstacle to the provision of banking services. The likely providers of MFS are telecommunication companies or ‘telcos’: their business model is sufficiently low cost to be viable and, in many countries, their customer base is already massive. Today, globally, over 1 billion people have a mobile phone, but no bank account.
The story of Vodafone in Kenya, with M-Pesa, is well known. Today, 10 years after its inception, M-Pesa is a major success, providing financial services to a sizable proportion of the population who otherwise would not enjoy them. The example of Kenya on regulation is instructive, as the Central Bank of Kenya largely left the provision of MFS alone until these services began to become systemically significant.
So the developing country central bank that wants to regulate this area needs to think carefully. Less is more, most often, when it comes to MFS. The DFS Research Team at UNSW Sydney has done a lot of work to support local central banks in doing less, and doing it well. Recently, we have produced a Regulatory Handbook to address the questions developing country regulators might have, and support them in thinking through the issues. We have also produced a Regulatory Diagnostic Toolkit to assist central banks to identify barriers and gaps in their regulatory regime.
Typically, there are only three areas that initially call for regulation: protection of the funds and of consumers, as these are essential to the viability of the ecosystem, and Anti-Money Laundering/Combating the Financing of Terrorism (‘AML/CTF’) regulation, as this is mandated by international regulations.
The traditional way to protect the funds is to require the provider to keep an amount equal to the amount of issued e-money on trust in an account with a commercial bank, and we have analysed how to do this. In civil law systems, which lack the legal institution of a trust, the task is more complex but the risks can be resolved in analogous ways (see here).
The protection of consumers should enhance trust in the system but needs to be kept simple and provide effective redress mechanisms. All the rules in the world are useless if a consumer who has lost their money cannot make a free call to a number that is answered reasonably promptly by someone who can fix the problem. As we have suggested, central banks also need to focus on the redress mechanisms’ effectiveness, by, among other things, pretending to be distressed customers. The other step that can serve to protect consumers is a simple provision making telcos liable for their agents’ actions. The money-in/money-out functions for e-money are typically provided by the same local storekeepers who sell airtime for the telcos. Some telcos insist that these agents are independent contractors and that the customer’s recourse ends, formally at least, with them. This is undesirable, and this misleading allocation of responsibility should be prohibited, as we have explained here.
In poor counties, AML/CTF regulations often cause more problems than they address, especially by dissuading banks from providing the accounts that low-cost money transfer operators need to provide affordable remittance services. The behavior of banks in closing these accounts is termed ‘de-risking’, but while it lowers the banks’ risks, it actually raises system-wide risks as it forces these essential remittances into informal, untraceable channels. We have analysed how local regulators need more support in implementing proportional, risk-based AML/CTF rules.
But apart from light-touch regulations to protect the funds and consumers and to prevent money laundering and terrorist financing, our advice to regulators is to leave the sector alone. Let it flourish. Nurture it with the benign gaze and moral support of the Central Bank, without burdening it with regulations suited to a bank that can generate serious risks. This support should include the Central Bank encouraging providers to develop products suited to that particular market. Both telco product development teams and Central Bankers need to get out of the capital city and spend time in the villages talking to customer focus groups; for it is from meeting customer needs, understanding the customer journey, and providing an enabling, light-touch and nuanced regulatory regime that a flourishing mobile financial ecosystem will grow to the benefit of the poor, especially those living outside the major cities.