Financial Exclusion: The Dark Side of an Affluent Nation

Life without credit might sound good to comparatively affluent individuals who have maxed out their cards, but it’s highly impractical in the twenty-first century. However, that’s the reality for about one in seven Australian adults who are unable to tap into a line of credit. Locked out from affording insurance and, in some cases, even access to a straightforward bank account, these individuals suffer from a different kind of high anxiety caused by financial exclusion.

Mikala Hehir, National Australia Bank’s (NAB) head of Community Finance and Development Corporate Responsibility, says that “the majority of our customers aren’t even aware” that such a large number of Australians are either completely or severely excluded from accessing basic financial services. A joint study, by NAB and the Centre for Social Impact (CSI) at the University of New South Wales, has found that 2.65 million Australian adults would have difficulty raising $3000 from mainstream financial institutions if they needed it in an emergency.

Chris Connolly, one of the report’s authors, says that financial exclusion on this scale is usually seen in developing countries. “It shouldn’t be the case in a prosperous nation that people don’t have access to these basic financial services,” he argues. The consequences, warns NAB Group chief executive Cameron Clyne, are that people are forced to turn to unregulated or fringe lenders who charge exorbitant interest rates, which push the poorest in society into a downward spiral of debt.

The NAB/CSI Financial Exclusion Indicator, published in May, is the result of the largest survey of its kind in Australia. NAB has been running a micro-financing scheme for eight years in partnership with the Good Shepherd charity and state and federal governments, but had no data that showed what types of people and how many were affected by financial exclusion, Hehir says.

To find out, they drew on data Roy Morgan Research gleaned from interviews with fifty-thousand people, as well as a smaller online survey conducted by CSI with more targeted questions. Hehir describes the results: “If you imagine you’re in a room with these people, there will be a large number of eighteen to twenty-four year olds, Indigenous people will be over-represented [as will] people who have come from overseas, the elderly and those on lower incomes. You will also find that most of the people will have only achieved a primary-level education.”

The survey corroborated other international findings that financial exclusion is concentrated among those who are most disadvantaged in society already, and compounds their social exclusion. Poverty is the common factor for these groups, which include people with disabilities, the long-term unemployed and other welfare recipients, homeless people and single mothers.

Calculating Costs

To measure their financial exclusion, the researchers chose people’s access to three basic products: the simple transaction bank account, access to moderate credit by means of a credit card and the lowest-cost general insurance. The average annual cost of these three products together was calculated to be $1740. For about ten percent of the population, this represents more than fifteen percent of annual income. Based on cost alone, more than nineteen percent are either fully or severely excluded.

“We costed the services incredibly conservatively with the lowest cost credit card, the most basic insurance and so on,” says Connolly. “There’s huge financial stress involved when you have to spend more than 15% of your income on the things that we take for granted – and that doesn’t even include a mortgage or the cost of a car which allows people to move up the ladder.”

The most essential product for financial inclusion is the simple transaction bank account that most take for granted. The survey found that while people on incomes below $25,000 are very unlikely to have insurance and credit, they are more likely to have a bank account. This is known as the “Centrelink effect”, says Connolly, as recipients require a bank account for the electronic transfer of benefits. However, those earning between $25,000 and $30,000 – “the working poor”, in other words – the number without a transaction bank account falls away dramatically.

As for credit, this was the hardest product for anyone on a low income to get hold of, particularly the young. The costs of owning a credit card are also prohibitive. The researchers calculated the average annual cost of owning a credit card as just under $800 with fees and charges. Yet, people on low incomes are often only looking for small loans to cover an emergency purchase, payable at a fixed and affordable rate. But it’s precisely these small loans that many mainstream banks have withdrawn in recent years. “We found it quite scary that we couldn’t find any small loans available from banks,” says Connolly.

To some extent, the community sector has stepped in to fill the gap, with the NAB and Good Shepherd partnership providing about twenty-thousand loans this year, for example. But this is far outweighed by loans from the alternative financial sector, which has grown rapidly over the past decade and was worth $800 million in 2008. A company such as second-hand goods trader Cash Converters provides about four-hundred to five-hundred thousand loans a year, typically with very high interest rates and fees compared to a credit card issued by a mainstream bank.  The higher costs associated with these alternative sources of credit ensure that the poorest in society are penalised disproportionately to their income.

Age Factor

But poverty is not the only reason for financial exclusion. Of all the age groups, it is young people between eighteen and twenty-four who have least access to financial services, with forty-five percent severely excluded and fourteen fully excluded with very limited access to credit and insurance in particular. Connolly says although many will be students and therefore not earning, this doesn’t entirely explain their exclusion. “The reality for many young people is that they still have to rely on their parents. They have no driving history so insurance premiums are high and hard to get and most likely will be in their parent’s name.” Young people also have little employment history or may be casually employed making credit hard to get, he says.

Connolly believes that the market is not meeting the needs of the population in some cases. “We don’t have any starter financial products for young people that give them inclusion and independence. By offering young people a small amount of credit, for example, they have the chance to prove that they can pay it off and move up the scale.” Insurance is not considered “cool” by the young and generally is not purchased until people are much older, he says. People born overseas tend not to have insurance either, according to the report. “We don’t understand why that is,” says Connolly. “Whether it’s a cultural thing or a problem of language or cost. It may be that products need to be designed for these groups or that government policy is needed to address these issues.”

Geography and changing technology also plays a part in how people access financial services. The early years of the century saw a large number of branch closures as banks tried to move customers towards Internet banking in particular. It worked. About fifty-five percent of the population now use Internet banking. It’s the elderly who are largely left out of this figure. A knowledge gap combined with isolation or a lack of trusted support, means there is a reluctance to use new methods of money management.

People with lower education levels also tend not to bank via the Internet. Only nine percent of those whose education finished at primary school manage their money online, compared with seventy-three percent of people with a degree or diploma. These groups prefer to visit a branch or an ATM. While there is one ATM for every 804 people in urban areas, in regional or rural areas that figure drops to one for every 2029 people. Mainstream banks have committed to providing some branches and ATMs in rural and remote locations, but many ATMs are independently owned and run to make a profit. Hehir makes the point that, because costs for infrastructure and supplying cash to remote and rural locations are high, if regulation is increased there is a risk that private ATM operators may withdraw services altogether.

Tackling the Challenges

In Ingrid Burkett and Belinda Drew’s 2008 paper, Financial Inclusion, Market Failures and New Markets, they suggest that financial institutions believe, not always with evidence, that there are higher costs associated with providing services to low-income groups – particularly transaction costs. They raise the point that lending money to the poor is high risk and doing business with them at all poses greater brand and reputation risks – all of which helps to maintain a status quo where the financially excluded remain that way.

Although banks sign up to the Australian Bankers’ Association’s Code of Banking Practice or have their own code on engagement with low or fixed income customers, compliance with such codes is voluntary and unregulated. By contrast, in the US, regulation comes in the form of the Community Reinvestment Act, which forces banks to reinvest in poor communities, comply with basic service provision and report on their engagement with excluded groups. In Europe, there is debate around the failure of voluntary regulation, and proposals are being considered to allow every European citizen the right to access a reasonably priced bank account.

Burkett and Drew argue that, while regulation in Australia has been important for transparency, it has led to a highly uniform framework for financial services and products which has put pressure on smaller and more specialist companies. “Credit unions with a focus on serving remote indigenous communities and small rural areas have merged with larger institutions that may not have the same orientation to addressing the needs of their members. And small funds with more social and ethical missions have disappeared, as size begins to matter,” they say.

Nevertheless, Connolly believes that social responsibility is beginning to have a lot more traction at board level with mainstream financial institutions realising the benefits good publicity brings. The Financial Exclusion Indicator will be repeated each year, providing a tool for stakeholders to measure financial exclusion and better target products and resources. Connolly says there are plans during the next survey to look more closely at areas such as barriers to indigenous communities accessing banking products and the role of education and financial literacy.

“It was really important for us to try to give a voice to those who are excluded and raise awareness of the issue,” says Hehir. The hope for the future is that governments, business and community organisations tackle those challenges head on.

Knowledge@Australian School of Business