Academic journal article Economic Review - Federal Reserve Bank of Kansas City

Banking on Distributed Ledger Technology: Can It Help Banks Address Financial Inclusion?

Academic journal article Economic Review - Federal Reserve Bank of Kansas City

Banking on Distributed Ledger Technology: Can It Help Banks Address Financial Inclusion?

Article excerpt

Access to financial services is an important policy goal. Households with access to financial services are able to withstand temporary financial hardship and build wealth, ultimately improving economic outcomes (Raskin; Brainard 2017). Banking services, in particular, facilitate inclusion in the financial mainstream by enabling households to deposit and save income, make payments, and obtain credit while offering substantial consumer protections (Gruenberg). Yet despite these benefits, 7 percent of U.S. households do not have a checking or savings account and are thus considered unbanked (FDIC 2016).

Policymakers and consumer advocates have suggested that financial technology (or "fintech") may address the needs of these consumers (Carney; Curry). One particular innovation, distributed ledger technology (DLT), has been promoted as a solution given its potential to reduce costs and increase access points for consumers (Committee on Payments and Market Infrastructures; Higgins; Walport; Mills and others; World Economic Forum; He and others; Baruri). By removing the need for a central authority through decentralizing records into a shared digital ledger, DLT could potentially lead to cheaper, faster financial transfers (Wessel). To date, however, most analyses of DLT's ability to provide financial services to underserved communities have focused on broad international case studies or nonbank financial institutions (Baruri; Biggs; Georgetown University). Few researchers have connected the specific issues affecting unbanked consumers in the United States to the services DLT could provide.

In this article, we analyze whether DLT addresses unbanked consumers' primary concerns about having a checking or savings account. We argue that while DLT addresses each concern in at least a limited capacity, it is unlikely to significantly reduce the share of unbanked consumers in the United States. Historical examples show that banks are unlikely to pass DLT's cost savings through to consumers. Further, outcomes from previous cost-focused policy initiatives suggest demand for banking services among the unbanked is either low or relatively unresponsive to changes in the cost of banking services. DLT is also unlikely to make banks more trustworthy in the eyes of the unbanked or provide more privacy for consumers. Although DLT may address concerns about convenience and account offerings, only a small percentage of unbanked households report these concerns as the major factor in their banking status.

Section I examines data on unbanked consumers and the reasons they forego banking services. Section II provides a high-level summary of DLT's benefits. Section III explains why DLT's benefits are unlikely to address the obstacles unbanked consumers face.

I.The Unbanked: Demographics and Rationales

While financial inclusion can refer to the use of any consumer financial service, we focus on household use of bank accounts rather than alternative financial services (AFS) such as title and payday loans, check-cashing, and money order services. Although AFS providers may benefit some consumers, their temporary, one-time services do little to improve consumers' long-term financial status (Baker). Moreover, the high cost of basic financial services from AFS providers may undermine redistributive income policies aimed at helping the poor.1

In contrast, bank accounts can carry substantial, long-term benefits. For example, bank accounts reduce the risk of loss or theft of financial assets and enable households to accumulate wealth (Barr). This wealth can provide a buffer against transitory financial shocks, ultimately reducing insecurity and stress (Caskey 2002; Brainard 2017). Consistent with this hypothesis, Caskey (1994) finds that unbanked consumers are more likely to have credit problems. In addition, obtaining a bank account often precedes more complex financial investment (Beverly, Moore, and Schreiner; Caskey 2005).

To identify financially underserved populations, we use the 2015 FDIC National Survey of Unbanked and Underbanked Households (FDIC 2016). …

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