Understanding Financial Inclusion: What Matters and How It Matters
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The level of economic development matters for the effectiveness of financial inclusion in achieving poverty reduction.
We introduce a new index of financial inclusion for 153 advanced, emerging, and developing economies using a comprehensive set of new indicators, grouped into four different dimensions: financial access, usage, financial development, and fintech infrastructure. The fintech infrastructure dimension in particular captures electronic and digital payments and their enabling infrastructure. In the two-step regression, we first estimated effective financial inclusion using the linear predicted values of financial inclusion based on the economic factors that are known to be the main determinants of financial inclusion. Second, we estimated the impact of effective financial inclusion on various development outcomes. The empirical results indicate that effective financial inclusion and all four related dimensions lower poverty. Improved access and fintech infrastructure reduce income inequality, and these two dimensions complement usage in increasing entrepreneurship. However, the dimensions do not have a uniform effect across different income groups. Moreover, an increase in effective financial inclusion is stronger for middle-income economies than for low-income economies. This suggests that the level of economic development, which can provide a better enabling environment for business and economic opportunities, matters for the effectiveness of financial inclusion in achieving poverty reduction.
WORKING PAPER NO: 1287