Finance for financial inclusion brief

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Navigating the Next Wave of Blended
Finance for Financial Inclusion
Blended finance is at the heart of the discussion on how to attract private investors to close the
estimated $2.5 trillion annual gap to finance the Sustainable Development Goals (SDGs) (UNCTAD
2014). In financial inclusion, the use of blended finance is not new and has attracted private
investments from international and local sources (see Box 1). How will this most recent emphasis
on using blended finance to mobilize private capital for development affect funding for financial
inclusion? This Brief presents opportunities for the new wave of blended finance and points to areas
that deserve further attention to optimize the use of different funding sources to advance responsible
financial inclusion.
Increasing role of private capital
in development finance Box 1. What is blended finance?
The Organisation for Economic Co-operation and
The signs are clear, even if progress is slow: More private Development (OECD) defines blended finance as "the
capital will become available for the SDGs and development, strategic use of development finance for the mobilization
including financial inclusion. More than 160 blended finance of additional finance towards the SDGs in developing
facilities have been launched since 2000, and US$81 billion countries." The risk-return profiles of investments in
has been mobilized from the private sector between developing countries often do not meet the expectations
2012 and 2015 (OECD 2018). Budgetary constraints on of commercial investors. Blended finance can improve
public funds and changes in rules for measuring official the risk-return profile to attract commercial investments
development assistance that reward donors for mobilizing by managing, mitigating, or transferring risks to funders
private capital have prompted public donors like the World with a higher risk appetite (e.g., public or philanthropic
Bank and the European Commission to use blending funders). Several mechanisms can be used to this
instruments to raise private capital.1,2 Foundations are also end, and this paper focuses on three principal ones:
committed to help close the SDG funding gap and use (i) junior or subordinated capital, which incurs losses
blended finance mechanisms to mobilize private capital. before senior investors, thus minimizing risk to senior
investors; (ii) guarantees and insurance mechanisms
In financial inclusion, blended finance has a long track that fully or partially protect investors against risks; and
record. The State of Blended Finance Report (Convergence (iii) grant-funded technical assistance, deployed either
and BSDC 2017) notes that the financial sector accounted alongside an investment vehicle for building the capacity
for the largest number of blended finance deals (26 percent), of investees, or to fund the preparation and design of
including a total of 187 deals from 1980 to 2016.3 funds or individual deals.
The development community's call for private investments
is mirrored by an increasing interest from private investors has attracted private investors focused on impact. Private
who seek investments that generate social or environmental investments accounted for 26 percent of total commitments
benefits beyond financial returns, as evidenced by the for financial inclusion as of December 2016 (Tomilova and
expanding impact investing industry. Impact investors project Dashi 2017). Private institutional investors (e.g., insurance
a 17 percent increase in their impact portfolios for 2018 (GIIN companies and pension funds) rank as the largest funding
2017). Mainstream asset managers and investors (including source of microfinance investment vehicles (MIVs).
Blackrock, Bain Capital, and TPG4) have recently entered the
impact investment sphere, and Deutsche Asset Management
(now DWS), UBS, and Morgan Stanley are constructing larger Advancing financial inclusion with
funds and platforms to accommodate large institutional and blended finance
retail investors. Digital platforms for impact investing are
also emerging, and asset managers report that the boards Financial inclusion is an important enabler of the SDGs, and
of public and some private pension funds are urging them it is a sector that is successfully leveraging private capital.6
to pursue market rate investments aligned with the SDGs.5 Development finance institutions (DFIs) and donors that want
to use blended finance in financial inclusion should focus
In financial inclusion, the maturity and track record of the on areas where private investors are not (yet) comfortable
microfinance sector as an impact investment asset class investing and where there is promise in terms of impact and
1 OECD's Development Assistance Committee introduced a new development assistance statistical concept--Total Official Support for Sustainable
Development--which complements bilateral aid data with information on all "officially-supported resource flows" (including private capital).
2 The World Bank recently introduced a $2.5 billion Private Sector Window that, along with IFC and MIGA, will facilitate private sector
investments in low-income countries. The European Commission`s External Investment Plan is projected to mobilize Euro 44 billion or more for
SDG-related financing.
3 While financial sector development is broader than financial inclusion, it is assumed that most blended finance deals in the financial sector seek to
improve financial inclusion. In terms of amount of capital (as opposed to number of deals), the clean energy/climate and health sectors surpassed
the financial sector, reflecting larger deal sizes in these sectors.
4 TPG is a global private investment firm that has raised an impact investment equity fund--The Rise Fund--with commitments of over $2 billion
and support from several celebrities, U.S. West Coast technology entrepreneurs, and institutional investors.
5 ImpactUs and Align 17 (a World Economic Forum Young Global Leaders Program initiative with UBS support) are two digital platforms for
impact and SDG investing.
August 2018 6 Financial inclusion is explicitly targeted in seven SDGs, and there are four financial inclusion indicators to track progress, including one that
tracks the proportion of adults with a transaction account (SDG 8, Economic Growth).
BRIEF
2
scale. The following are three areas where blended finance and organizational structures to reinforce links between
has an important role to play. financial inclusion and other development objectives, a
trend that is expected to continue.8 The SDG-related
Technology-enabled business models. Blended finance push for private investment in development presents
mechanisms have helped crowd-in private international opportunities to use blended finance to identify and
and local investors for over 20 years and were important stimulate connections between financial inclusion and
in scaling microfinance. Today, private investors that are essential services, such as energy, education, and water.
investing through MIVs are increasingly comfortable with
microfinance investments and do not need subordinated Businesses that link financial services and energy-efficient
capital. Since private international and local investors are products are one example of new investment opportunities.
increasingly less dependent on risk mitigation for core Clean energy finance is growing through standard
microfinance investments, DFIs and donors are expected microfinance institution (MFI) distribution channels: MFI
to pivot to innovative, often technology-enabled business investees that offer green loans in MIV portfolios jumped
models, including FinTechs.7 Through blended finance from 16 percent to 24 percent in 2016 (Symbiotics 2017).9
instruments, DFIs and donors have the opportunity to In addition, companies are providing solar home systems
de-risk the next generation of financial services providers (and potentially other assets) on a pay-as-you-go (PAYGo)
(FSPs) and support companies that will bring efficiencies basis by leveraging the mobile money infrastructure, and
to incumbent FSPs. Risk-taking capital from donors, DFIs, thus enabling customers to access clean and efficient
and impact investors can fund promising companies and energy. This partially makes the PAYGo solar business a
product pilots to give innovators the opportunity to flourish finance company (Sotiriou et al. 2018). PAYGo companies
and scale financial inclusion (see Box 2). have gained ground in recent years among both impact
A spectrum of investment opportunities is available to and commercial investors and DFIs. Investments in off-grid
a broad range of investors. DFIs, impact investors, and companies reached $317 million in 2016, with the lion's
traditional venture capital firms are already investing in share of capital going to PAYGo companies (World Bank
FinTechs, albeit to a limited extent. Certain countries in Group 2018). Still, the sector is in its infancy. Critics suggest
Asia and Africa have received sizeable private investments that investments are concentrated in too few companies
for FinTechs, but concentration on a few lead markets with aggressive growth strategies despite unproven
is high (Intellecap 2018). For example, Kenya received business models (Neichin, Isenberg, and Roach 2017).
98 percent of FinTech investments in East Africa. Other There is also room to expand the development of PAYGo
challenges include the lack of debt funding in local models in markets outside of East Africa. The PAYGo
currency, the difficulty FinTechs face in securing subsequent sector, therefore, could benefit from blended finance to
rounds of funding, and issues around equity (Intellecap de-risk investments, improve investment readiness, and
2018). There is significant room for DFIs, public donors, build capacity.
and foundations to address these market gaps, including
through blended finance mechanisms. The potential for Business models to advance farmer and agricultural
new technology-enabled companies to scale quickly and finance. The SDG-related push for private investment is
efficiently is compelling, yet start-ups and technology also encouraging DFIs and impact investors to explore
are risky, and private investors will need risk-mitigating investment opportunities in the agricultural sector. In
capital and support. Donors and DFIs can provide that, 2017, for example, many impact investors reported plans
but they need stronger frameworks to assess investment to increase allocations to food and agriculture (GIIN 2017),
opportunities that make business sense, while at the same and nearly a quarter of MIVs' nonmicrofinance assets
time contributing to development outcomes. are invested in agriculture (Symbiotics 2017).10 Financial
services can play an important role in increasing agricultural
Emerging business models to deliver essential services. production and promoting food security by helping farmers
Many donors and DFIs are already adjusting their strategies make profitable investments and cope with shocks.
Box 2. Zoona: Catalytic capital for financial inclusion innovators
Zoona is a FinTech company that provides money transfers, bill and bulk payments, and most recently, savings and credit
services in Zambia and Malawi. In 2009, Zoona was a digital financial services disruptor that demonstrated that an agent-
led model with a powerful technology payments platform could be successful and diversify into other financial services
and countries. It received critical initial grant funding from USAID and Deutsche Investitions und Entwicklungsgesellschaft
to support a payments pilot for smallholder cotton farmers. The grant enabled Zoona to develop its payments platform
and secure a central bank payments license. Later, after securing critical debt and equity investors (including a DFI), Zoona
received more grant funding to develop a savings product. It has now processed over $2 billion in transactions, and has an
active customer base of 2 million (Zoona 2018).
7 FinTech refers to the use of technology and technology-enabled innovative business models in financial services.
8 In 2016, one-third of international funder commitments were made as part of broader financial-sector development projects (20 percent) and
other development projects (e.g., water and sanitation, environmental protection, energy efficiency, etc.) (Tomilova and Dashi 2017).
9 "Green loans" are designed to finance the purchase of energy-efficient or environmentally friendly products, such as solar panels, home
insulation, biodigesters, clean cookstoves, etc.
10 As of 2016, nearly 10 percent of MIV total assets financed sectors other than microfinance; 23 percent of these assets are investments in
agricultural value chains (Symbiotics 2017).
3
Smallholder families remain a priority because of their low capitalize. Often, donors and DFIs do not have the expertise
level of financial inclusion.11 to create or manage these funds efficiently, thereby creating
unproductive competition that may crowd out seasoned
Many financial institutions still perceive agriculture and impact fund managers. Donors and DFIs should create
agribusiness as a risky sector. As a result, farmers and funds only where they can add value that private sector
agribusinesses depend on informal financial services or players cannot. Donors and DFIs need to collaborate closely
finance provided by value chain actors (e.g., suppliers, as they attract and "steer" new private sector players into
buyers) (Dalberg 2016). Blended finance mechanisms could development finance and financial inclusion.
be used to address these challenges. For example, donors
and DFIs can provide junior/risk capital in agriculture Empower DFIs to take more risks in building markets
investment funds that seek to increase access to finance more broadly. Most DFIs support financial inclusion by
for smallholder farmers and agribusinesses. There is also funding FSPs (92 percent of total commitments), including
an opportunity to test more efficient models of financial already established MFIs that have ample capital access
services provided by value chain actors. For many of (Moretto and Scola 2017). However, once the path has
these organizations, this is risky; blended finance can help been cleared for private investments, DFIs need to pare
share the risk at the farmer portfolio level and help these back and rationalize their own investments to ensure
organizations expand their outreach and increase scale that they do not crowd out private investors. (A common
(IDH 2016). MIV complaint is that there is too much money chasing
too small a group of top-performing entities.) There is a
To date, the experience with blended finance solutions call for DFIs to focus on building markets (e.g., market
to encourage financial institutions and other types of infrastructure, coordination, enabling environment, etc.)
providers to serve the financing needs of farmers and and supporting promising new business models to become
agribusinesses has not found many solutions at scale investment-ready for private investors. This will require
(Convergence 2018). DFIs and donors will need to build adjusting the DFI business model to allow them to take
on past experiences to innovate and optimize the use of more risks; make smaller, early stage investments; prioritize
blended finance instruments. development returns over financial returns; and be more
patient. Ultimately, donor-governments represented on DFI
Optimizing the role of donors boards are responsible for empowering DFIs to play a more
and DFIs for crowding in catalytic role and ensure the complementarity between
private capital
DFIs and donor agencies.
Focus on developing local capital markets. Donors and
The SDGs have spurred new investors to pursue impact DFIs should focus on using their instruments to build reliable
investments. Donors and DFIs can use their funding more local capital markets that will crowd in local investments and
effectively to crowd in private capital. At the same time, support a variety of investment products (e.g., certificates
they must continue to address the underlying constraints of deposit, commercial paper, bonds, and securitizations).
that hold back the development of inclusive financial Donors can fund studies and facilitate reform processes for
services markets or the inclusion of specific populations or more enabling policies and regulations, for example, by
communities. The following are a few ways donors and DFIs stimulating public-private dialogue. DFIs can invest in pilots
can optimize their impact. and facilities like KfW's sponsored African Local Currency
Bond Fund, which is an example of applying a blended
Address issues that discourage private investors. finance approach to developing local bond issuances and
Blended finance may improve the risk-return profile of attracting local private investors.
businesses to attract private investors and help build a
pipeline of investment opportunities, but it will not Mitigate foreign exchange risk. Private investors and
resolve the underlying deterrents to private investments DFIs are still largely lending in hard currency such as Euro
in financial inclusion. Significant barriers include macro or U.S. dollars (approximately 70 percent), which creates
risks (e.g., political, economic, and currency), weak risk for all parties (lenders and borrowers) (Moretto and
regulatory environments, market transparency, and illiquid Scola 2017). Donors and DFIs need to ramp up support
investments. While donors and DFIs cannot mitigate all to expand existing hedging mechanisms to encourage
such risks, they can facilitate the development of inclusive lending in local currency.12
financial sector policies and regulations and strengthen the
capacity of supervisors, thus building investor confidence. Support information and transparency to build investor
confidence. Private investors have been attracted to
Leverage funds and facilities. Testing diverse funding microfinance not only because donors and DFIs de-risked
approaches, structures, and business models can be catalytic the business model but also because transparency on
and beneficial, but a haphazard proliferation of new funds financial and social performance significantly enabled
and facilities can also be inefficient and slow to scale. In private investors to identify well-performing MFIs and
light of the intensifying quest to catalyze private capital, build investor confidence. Support organizations like MIX
donors and DFIs may be tempted to create their own funds/ and rating agencies developed indicators and standards
facilities for emerging markets that the private sector will to assess the financial and operational performance of
11 Data from six CGAP national surveys of smallholder households indicate that financial inclusion varies substantially across the sample,
ranging from a low 7 percent in Mozambique to 45 percent in Bangladesh and 49 percent in Tanzania. See CGAP's website (.
) and its Smallholder Families Data Hub (smallholder-families-data-hub).
12 Namely, The Currency Exchange and MFX, Microfinance Solutions. In the past 8 years, MFX has hedged $1.5 billion in loans to small
entrepreneurs in 45 currencies ().
4
August 2018
All CGAP publications
MFIs and made information publicly available. Other References are available on the
organizations like the Smart Campaign and the Social CGAP Web site at
Performance Task Force created standards and transparency Convergence. 2018. "Conducting a Feasibility Study for .
on social performance. To crowd in private capital, whether Financing Facility for Cocoa Smallholders in Ghana." Case
it is in FinTechs, PAYGo businesses, or other new business Study. Toronto: Convergence. CGAP
models, robust and comparable data on financial and social 1818 H Street, NW
performance are needed. Donors and DFIs should support Convergence and BSDC (Business and Sustainable
efforts to build this information infrastructure and capitalize Development Commission). 2017. "The State of Blended MSN IS7-700
on the lessons from microfinance.
Finance." Working Paper. Toronto: Convergence and BSDC. Washington, DC
20433 USA
Promote and implement responsible investing. To avoid
state-of-blended-finance
harming customers, donors and DFIs should encourage Dalberg. 2016. "Inflection Point. Unlocking Growth in the Tel: 202-473-9594
responsible practices by new types of businesses (see Box Era of Farmer Finance." Washington, D.C.: Dalberg. https:// Fax: 202-522-3744
3). But, they also need to set practices and standards for post/inflection-point-unlocking-growth-
themselves and private investors. As seen in microfinance, era-farmer-finance Email:
aggressive growth targets, high return expectations, and GIIN. 2017. "Annual Impact Investor Survey 2017." New York. cgap@
concentration of funding across the same players have posed GIIN.
significant risks that ultimately have harmed poor customers IDH. 2016. "Service Delivery Models: Insights for Continuous
? CGAP, 2018
(e.g., client over-indebtedness). Recently launched guidelines Improvement and Farm Impact." Utrecht: IDH.
for investing in responsible digital financial services
reflect investor efforts to promote responsible investing Intellecap. 2018. "Fintrek Exploring New Frontiers in Fintech
(Responsible Finance Forum 2018). To operationalize the Investments in East Africa 2018." Nairobi: Intellecap. https://
guidelines, investors can build on the practices, market knowledge-hub/documents/fintrek-
infrastructure, and experiences of microfinance. exploring-new-frontiers-in-fintech-investments-in-east-
africa-2018/
More funding does not necessarily lead to better results. As Moretto, Louise, and Barbara Scola. 2017. "Development
funding for financial inclusion evolves under the overarching Finance Institutions and Financial Inclusion: From Institution-
umbrella of the SDGs, donors, foundations, and DFIs Building to Market Development." Focus Note 105.
have an opportunity and obligation to shape innovation Washington, D.C.: CGAP.
in financing mechanisms that leverage private capital for development-finance-institutions-and-financial-inclusion
financial inclusion. However, mobilizing resources should Neichin, Greg, Diane Isenberg, and Mary Roach. 2017.
not come at the cost of neglecting problems that cannot "NextBillion's Most Influential Post of 2017: An Impact
be solved with investments. There is a risk that projects that Investor Urges Caution on the `Energy Access Hype Cycle'."
do not create financial returns receive insufficient attention. Blog post, 22 December
Addressing the barriers of financial inclusion is complex and investor-urges-caution-on-the-energy-access-hype-cycle/
requires more than investing in business models. Donors, OECD (Organisation for Economic Co-operation and
foundations, and to some extent DFIs play a crucial role Development). 2018. "Making Blended Finance Work for the
in addressing systemic constraints that are often linked to Sustainable Development Goals." Paris: OECD Publishing.
incentives, relationships between different market actors,
and weak capacity. Donors, foundations, and DFIs must not Responsible Finance Forum. 2018. "Investing in Responsible
lose sight of these issues to widen and deepen coverage of Digital Financial Services. Guidelines." Washington, D.C.:
both populations served and products offered.
Responsible Finance Forum. .
org/wp-content/uploads/2018/06/Guidelines-Investing-in-
Responsible-Digital-Financial-Services_.pdf
Box 3. Keeping client protection and Sotiriou, Alexander, Pepukaye Bardouille, Daniel Waldron,
responsible finance at the forefront
and Gianmaria Vanzulli. 2018. "Strange Beasts: Making Sense
of PAYGo Solar Business Models." Washington, D.C.: CGAP.
With the proliferation of new businesses (such as
FinTechs or PAYGo companies) come new risks that sense-paygo-solar-business-models
funders need to consider. Hacking, identity theft, Symbiotics. 2017. "2017 Symbiotics MIV Survey Data & Peer
and aggressive credit offers are among the risks poor Group Analysis." Geneva: Symbiotics.
people face, and the effects of new business models on
customers are not clear yet. Therefore, the focus on the Tomilova, Olga, and Edlira Dashi. 2017. "International Funding
responsible delivery of financial services by new types for Financial Inclusion: Key Trends and Developments." Brief.
of providers is still essential. Washington, D.C.: CGAP.
international-funding-financial-inclusion
Funders can promote responsible practices by (i)
supporting industry-led initiatives, such as client UNCTAD (United Nations Conference on Trade and
protection-focused codes of conduct and standards Development). 2014. "World Investment Report 2014:
development, (ii) supporting consumer protection Investing in the SDGs: An Action Plan." Geneva: UNCTAD.
regulation and supervision, and (iii) encouraging FSPs World Bank Group. 2018. "Off-Grid Solar Market Trends
to help empower customers by engaging with them in Report 2018." Washington, D.C.: World Bank Group. https://
ways that reinforce choice, respect, voice, and control. resource/2018-global-off-grid-solar-
market-trends-report/
AUTHORS:
Barbara Scola, Louise Moretto, and Estelle Lahaye

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