In the financial world individuals who lack access to banking or financial services are often described as “unbanked”. A vast majority of unbanked individuals use cash, and many do not have any retirement and savings accounts, insurance, pensions, and other safety nets. Globally, only 69% of adults, or close to 3.8 billion people, carry a bank account or a mobile money account according to the World Bank. Considering this statistics close to 1.7 billion adults lack access to a bank account, as large as this number maybe what’s alarming is that this number is on the rise. From 2014 to 2017 five hundred and fifteen million adults opened accounts. Still there are billions out there who still can’t access the most basic necessity of owning a bank account.
What is the root cause of such a large number of unbanked people? Despite a strong banking system, the unbanked population problem persists in all countries, not just in developing or underdeveloped nations. Approximately 55 million Americans are unbanked or 22 percent of the population. According to figures from the UK, there were 1.3 million people with no bank accounts, with a third of them having had one in the past.
Why is this significant? Because unbanked people are not solely confined to poor countries. It is apparent that people are opting out of banking even in countries with strong banking systems.
From the above data, you can see that some people had bank accounts in the past, but then chose to opt out of them. This dilemma can be caused by several factors, but for the most part, it points to the failure of the banks as the leading cause.
How traditional banks are failing?
The traditional banking system has several fundamental flaws, which is why most individuals just choose to not bank or do not have access. The following are some of the most prevalent difficulties that people face:
Distrust – A negative past experience and impersonal service cause people to avoid traditional institutions. Other former customers claim the bank’s employees didn’t treat them with respect. Generally, bank clients complain that bank fees aren’t upfront and prices are too high.
Inconvenience – Often, consumers say, bank branches aren’t plentiful in their community, so they don’t use them regularly. Additionally, they mention that the facility has limited hours of operation for people with different shifts.
Bank Fees – According to a Pew Research Center study, one-third of unbanked families abandoned traditional institutions owing to high or unjustified costs. According to some, the cost structure and explanations of fees are not clear.
Blacklisting – A lot of customers are unable to pass the necessary background check to obtain a bank account. Others are also barred from opening an account if they have a poor financial history, such as failed checks or repeated account violations.
Services are in short supply – Unfortunately, a shortage of funds might also imply fewer banking account alternatives. When a customer has less money, he or she may be unable to qualify for some accounts that need a greater maintained level.
These are just some of the reasons why banks have not been able to bank the unbanked. The result is that crypto is the only viable option for banking the unbanked population. Let’s try to figure out how that is so.
Are Crypto Banks a viable solution for the unbanked?
Typical problems of the banking industry is the excess of ‘fees and friction.’ This isn’t necessarily a negative thing. To maintain the financial system operational, banks have to charge fees. Despite these fee high fees disproportionately affect the unbanked. In fact, many would leave banking altogether and switch to cash. As decentralized currencies and digital assets grow in popularity, the unbanked are able to participate in the financial system without being burdened by fees and friction.
Transactions and wallets
The unbanked, for example, use Bitcoin rather than operating bank accounts. Exactly what is Bitcoin? Bitcoin is a type cryptocurrency operating on the blockchain technology and is decentralized. It is permissionless and censor proof, no regulations can control Bitcoin. Moreover it’s liquid where with a minimum fee, it can be sent anywhere without the geo-political constraints.
A private key is needed to access your Bitcoin private wallet, enabling you to hold, receive, and send the cryptocurrency. An internet connection is required to create them, and you can access them via a computer or mobile phone. In addition, Bitcoin can only be transferred from one wallet to another via the decentralized exchange validating it.
These qualities make Bitcoin or any other cryptocurrency for that matter very valuable for the unbanked population. Unbanked individuals benefit from these cryptocurrencies on two counts. In the first place, they’re affordable and quick. Additionally, it prevents people loosing access to their fund and other fees from eating into a balance if no cryptocurrencies are held.
The ease of use, trustlessness, and universality of cryptocurrencies makes it an ideal way to start a transaction. People without bank account now have wallets that act similar to a bank accounts. Payments for bills can be made with cryptocurrencies that is received from the company as salary. By using DeFi, those who are unbanked will be able to participate in other functions related to banking, without fees and friction.
Innovations in the DeFi Sector
The decentralized finance sector is also opening up a wealth of new opportunities in the financial sector. Key functions of the traditional banking system are being easily replicated thanks to the innovations in the Decentralized Finance Sector. Let us discuss the type of innovations in the DeFI space that are making banking access to the unbanked populations around the world.
Usage of Smart contracts
Instead of manually paying for necessities like rent, groceries, and electricity, smart contracts can handle these task. In layman’s terms, a smart contract is a computer software that automatically executes a contract after all of the conditional inputs have been completed successfully. Through smart contracts, the unbanked can specify a specific date by which they wish to pay their bills. Standing orders in banks work similarly to this. Automated bank transactions, like smart contracts, simplify payments. More importantly, it frees up time for you to spend on accumulating wealth.
Investments and savings
Assuming you have a wallet, and that smart contracts are used to make payments and save time, let’s learn about wealth creation. Investing and saving are two simple steps that all banks allow their customers to take. As discussed above, having an account and having time to manage it were prerequisites to savings and investing. In DeFi, wealth is created similarly to accounts held in banks.
After unbanked individuals begin sending and receiving cryptocurrencies via the account, anything leftover becomes ‘savings.’ Through investing, these savings can become wealth. It is possible to invest in two ways. Investing with a long-term growth objective, i.e. through growth. The second type is for income, i.e. with the aim of generating income over time.
For both investment types, DeFi employs several protocols. For example, you could purchase a cryptocurrency and hold it over time with the aim of its value increasing. In this way, the ‘growth’ objective is met. A liquidity pool can earn income by allowing its participants to contribute cryptocurrencies, and gaining interest periodically. Through these investment options, the unbanked could build their wealth in the long term, rather than just protect it. Maintaining wealth through regular investments in growth and income-generating assets ensures its security and growth. One more key banking function checked!
The DeFi world even offers support functions for banks. Lending is one example. Unbanked individuals need credit for starting a business, financing operations, or expansion.
DeFi offers peer-to-peer lending or lending pools that function similarly to banks when it comes to receiving credit. A certain loan amount is released without waiting and can be used immediately after collateral is deposited. Interest payments are determined and periodic interest payments are made. An array of contributors makes this credit possible. According to an algorithm based on demand and supply, the interest rate and collateral are determined. It is in stark contrast to the centralized banking system that makes a profit from the interest spread. There are protocols such as Aave, Compound, bZx, and Cream. DeFi lending is facilitated by finance.
Insurance is another important function of banks. As DeFi works on real-world insurance solutions, it already offers smart contract insurance.
As we have seen, there is a huge chunk of the population which is still unbanked regardless of the economic condition of a country. The major problem lies with the current banking system as it has failed its consumers in terms of trust, convenience and security. This is why people are not willing to become a part of the current financial infrastructure. So, crypto banks, while still in evolving stages, offers solutions to the unbanked population and gives them a certain advantage over having a bank account.