Emerging markets monitor

Major economies developed during the 20th century thanks to vast and expensive networks of telecoms or electricity cables. Emerging countries are already compressing decades of this sort of investment into mere years thanks to efficient and relatively cheap mobile telecommunications and small-scale locally generated and sustainable power sources. These, in turn, open up unprecedented economic efficiencies by giving ever greater numbers of people access to information – be it about market prices or how to fix an engine – and services essential to economic growth, not least finance and banking.

Digitalisation is the process of leveraging digital information to improving economic efficiency and business processes. The digital transformation of the past few decades has been on a par with the three previous technological revolutions that each caused a step change in human development: the printing press, the steam engine and electricity generation.

Fig. 1 - World wide web

Internet penetration, % of population

Digitalisation has seen the acceleration of technological adoption. It’s easy to forget how long it took technologies we take for granted to become prevalent, even in the world's leading economy. For instance, in 1915, just 10 per cent of Americans had access to a car. The proportion only hit 90 per cent in 1989. For electric power, an equivalent take-up took 40 years. For household landlines it took 66 years. By contrast, an equivalent shift in mobile phone penetration took just 22 years and only just slightly longer for computer to become similarly prevalent.¹ 

Some of this jump is thanks to the extraordinary leaps in technological complexity and simultaneous drops in prices. Moore’s law – which says microchip transistor capacity doubles every two years – means that in 1971 the most advanced chip had little more than 2000 transistors but by 2020 the count had hit some 50 billion. This, in turn, led to vast increases in computing power. In 1993, the world’s leading supercomputer could do 123 billion operations per second. By 2021 that number had hit 442,000 trillion. Meanwhile, the cost of technology collapsed. So, for instance in the US the price of an equivalent television fell 96 per cent in the twenty years to 2017.² 

These simultaneous leaps in technology and declines in cost had a big impact on emerging economies. According to analysis by the researchers at Oxford University’s Our World in Data, fixed line telephone adoption is rare for countries with per capita incomes of some USD7000 to USD8000. By contrast, there is no clear income threshold for the adoption of mobile telecoms.

Little wonder then, that mobile phone penetration has far outstripped fixed line telecoms. Globally there were 120 mobile phone subscriptions per 100 people compared to just 48 fixed line subscriptions.³ 

In 2017, there wasn’t a single country in sub-Saharan Africa with more than 10 fixed line telephone subscriptions per 100 people – most had substantially fewer than 1. By comparison, the US had 36. Yet, that same year, nearly all African countries had more than 25 mobile phone subscriptions and many had more than 100.⁴ 

Fig. 2 - Digital adoption

Digital adoption index*, 2016, vs GDP per capita in international USD relative to the US, 2019, %

In economic terms, younger populations and robust technology infrastructure give less developed countries a potential competitive advantage. Some 90 per cent of the world’s population under 30 live in these countries. One of the highest global penetration rates for mobile, for instance, is in South-East Asia. 

Indeed, the burgeoning digital economy led the recovery from the Covid pandemic in South and Southeast Asia, not least because of heavy smartphone penetration in many of these countries.⁵ 

This extraordinary penetration of new technology has the potential to economically supercharge some of the poorest and least developed corners of the world. That’s not least because it opens up finance to the previously unbanked. For example, even in the biggest Latin American economies, between a third and half of the population don’t have access to a bank account. And even where access has risen rapidly, there are constraints. So in India, financial access increased rapidly thanks to government efforts – by 2017, 80 per cent of adults had an account in 2017 – yet there remains a heavy reliance of cash in the economy. 

Fig. 3 - Unbanked

Percentage of unbanked population owning mobile phones

And while use of cash is expected to decline everywhere, this is from a higher base in emerging economies. In 2021 cash accounted for 44 per cent of transactions in the Middle East and Africa and 36 per cent in Latin America compared to just 11 per cent in North America. But these rates are seen falling to 31 per cent, 24 per cent and 6 per cent respectively by 2025.⁶

Digital financial services are also rapidly making inroads thanks to technological innovation in the financial sector, known as fintech. And much of this is being done through mobile telecoms. Some 66 per cent of unbanked people own a mobile phone. In Indonesia, about half the adult population, some 90 million people, remain unbanked yet 74 per cent have access to the Internet via smartphones. 

These give access to both the Internet and to mobile money accounts. Internet penetration is still relatively modest in Africa, at some 29 per cent of the population in 2019, but has been increasing rapidly. 

And while digital financial inclusion has focused on spending, it is also expanding rapidly to lending. Digital lenders combine alternative data generated by online digital payments providers and innovative algorithms called loan engines to build creditworthiness assessments and provide lending.

In this new world, fintech and big tech replace banks in acting as the new intermediaries in providing credit. Decentralised fintech platforms allow individual online lenders to interact directly with borrowers, in either a peer-to-peer lending model or a marketplace for loans. And there is scope for evolution between various services. For instance, China technology group Tencent has devised a superapp and whole ecosystem with WeChat Pay in China while Mercado Libre has built Latin America’s most popular e-commerce site taking a similar approach.

Fig. 4 - Mobile money

Number of mobile money accounts per 1000 adults, unweighted average

Being digital means these new providers of finance don’t have to carry the burden of expensive branch networks. Though some banks have started to shrink their networks, particularly as customer take-up of online and mobile channels accelerated their digitisation targets, challenger digital financial firms have an advantage here.

These upstarts also have the benefit of leapfrogging sclerotic IT systems. Traditional banks tend to have the burden of legacy systems that have often been bolted together in a less than optimal way. By contrast, start-up digital franchises with a clean, modern IT platform can have big advantages in both customer service offering and in back-office cost efficiencies.

Some emerging world governments are all too aware of advantages that digital banking can offer. For instance, regulators in Brazil have made efforts to open up their markets to digital alternatives. This has led to an acceleration of the number of accounts being opened in the country since 2019, while Mexico, a similar economy that hasn’t made equivalent efforts, has remained on a much slower upward trend. In Indonesia too, authorities have been adapting regulations to stimulate innovation in digital banking. 

And increasingly, emerging economies are becoming the source of this new technological know-how. Cape Town is now Amazon’s centre for cloud computer programming, for example. 

Together, the various forms of alternative sources of credit had provided close to USD800 billion in loans in 2019, with 94 per cent of the market concentrated in China, the US and Japan. But alternative credit is growing quickly across the emerging world. So, for instance, it accounted for 6 per cent of total credit in Kenya, 2.1 per cent in China but less than 1 per cent in leading developed countries.

There are strong incentives for digital upstarts to enter the market in emerging economies – emerging market banks tend to be considerably more profitable than their developed counterparts. In part, that’s because of high market share of the biggest incumbents, especially in Latin America.

Elsewhere, there is rapid growth in demand for other digital services that rely on digital finance. For example, e-commerce is growing at 25 per cent and 23 per cent respectively in the Philippines and Malaysia, with the UN reporting Asia as the fastest growing region in the global e-commerce marketplace, with more than three-quarters of sales done through mobile phones.

As it becomes easier for people to start businesses in these countries, tech innovation is only likely to grow. Since 2010, the cost of starting a business in emerging countries has dropped from 66 per cent of average annual income to just 27 per cent. 

Fig. 5 - Alternative credit

Alternative credit, total, USD billions

One of the other big uses of these alternatives to traditional banking in emerging markets has been for international remittances, where demand has grown as costs have collapsed. At the same time, the use of mobile phones for sending and receiving domestic remittances doubled in the poorest countries in just the three years to 2017. 

This is a boon for emerging markets. According to the consultant McKinsey, digital finance could boost employment by 95 million jobs and add 6 percentage points onto emerging markets GDP by 2025. Access to credit helps smaller enterprises to boost their productivity and competitiveness and encourages entrepreneurship. Higher financial inclusion has already lifted 2 per cent of the Kenyan population out of poverty.⁷

The digital future need not be the sole preserve of new entrants – it’s too early to write off incumbents. That’s not least  because they know their local customer base. Branches and physical channels remain important and though banks may be shrinking their branch networks, they’re not talking about getting rid of them altogether. Even in South Korea, which has some of the world’s highest broadband and smartphone penetration rates, not all home or auto insurance is bought online, nor is all stock broking. 

Fig. 6 - Crediting big tech

Big tech and Fintech stock of credit as percentage of total stock of credit, 2013-19

Other products, like life assurance, are complex and rely on agents making personal sales contacts. In other cases, such as throughout South and Southwest Asia, banking is a matter of microlending. In Indonesia, for instance, these small-ticket loans are typically made to rural village women and are kept in good order by weekly or fortnightly visits by bank loan officers, who tend to be young women themselves, living out of local branches and travelling by motor scooters. This is unlikely to be digitised anytime soon.  

What’s more, established financial firms are already major investors in tech, including across emerging markets. This benefits less developed countries in two ways – some of this tech budget will be spent on services provided in these countries, while the finished tech will also benefit customers across these countries. For instance, JP Morgan has announced a USD12 billion budget for new IT during 2022, a large slice of which will go to Indian software services companies. 

One of the digital revolution’s more interesting – and contentious – developments has the potential to dramatically change the financial landscape in emerging market finance: cryptocurrencies. 

Various cryptocurrency initiatives have the potential to make domestic and cross-border payments more efficient. That’s key, because many emerging market households rely on international remittances from family members – total global flows were USD551 billion in 2019.¹⁰ Given that the average cost of sending this money is 7 per cent, there are considerable efficiencies to be found.

The adoption of cryptocurrencies has the potential not only to reduce transaction costs, but to give rural communities easier access to medicines, new agricultural markets and more efficient transport as entrepreneurs familiar with local issues develop innovative solutions. And with the creation of common wallets – accounts which everyone can monitor transactions – crypto also opens up the potential for increasingly reliable and corruption-free self-government in small communities. 

Fig. 7 - Sending it all back home

Share of remittances via mobile phone vs GDP per capita

Crypto has already seen significant adoption for cross-border flows in emerging economies – enough to make some central banks uneasy.  The International Monetary Fund has already noted the risks that emerging market central banks from the dollarization of their payments systems, and highlighted the further risks posed by cryptocurrencies. But it also argued that macroeconomic policies in these countries could be strengthened were their central banks to introduce their own stablecoins – cryptocurrencies pegged to existing currencies.¹¹ 

Whichever path the digital revolution takes, it is likely to be an unqualified boon to emerging markets, driving development in countries that lack the significant infrastructure rich economies take for granted. This is already being seen thanks to mobile telephony and digital finance. And it is only likely to be a bigger force in the years to come.