New and emerging digital technologies have the potential to alleviate key constraints and market failures that impede sustainable development finance, such as weak contract enforcement, cumbersome administrative procedures, and paucity of information and data. They can contribute to reducing inefficiencies and to cost savings across the action areas of the Addis Agenda, but they also raise new challenges and risks for policymakers and regulators.
Update from the 2018 Financing for Sustainable Development Report
Domestic public finance
Fiscal policy can become more effective thanks to the greater ability of Governments to collect, process and act on information, through both improved public service delivery and tax collection. Digitalization increases efficiencies and saves costs in public financial management (PFM). Gains are accruing from the generation of more and better data, better data management systems and higher computer processing power, which can also lead to better policy design. For developing countries alone, it is estimated that moving government payment transactions from cash to digital could save roughly one per cent of GDP annually with about half accruing directly to Governments, greatly improving fiscal balances. In India, the country’s national biometric identity programme combined with a concerted public effort to increase financial inclusion have allowed an increasing number of government transfer payments to be made directly to individuals, significantly reducing leakage.
Although still in its infancy, distributed ledger technology—popularly called blockchain—is increasingly being applied and piloted in PFM administration as data and transactions infrastructure. Blockchain technology can instil trust and ensure security through its decentralized features. Its ability to work with “smart contracts”, which can automatically pay out an entitlement when certain eligibility criteria are met and verified by the blockchain network, can automate transactions such as licensing, revenue collection and social transfers, significantly lowering costs. Estonia, for example, offers citizens a digital identity card based on blockchain, which allows citizens to access public, financial and social services as well as pay taxes. Another area of interest is blockchain’s ability to combat illegal activities through improved verification of authenticity and provenance throughout the supply chain (the mining industry provides a good example)
Digitally enabled innovation in the financial sector (fintech) offers new business models for providing financial services and is at the heart of financial inclusion in many developing countries. Fintech includes start-ups that provide digitally-based financial services, established telecoms firms, and online retailers that use ICT capabilities and customer bases to provide digital financial services, such as mobile-telephone-based money, payments and banking service. Fintech can help overcome traditional impediments to accessing financial services by large segments of the population in developing countries in multiple ways.
First, fintech allows businesses and organizations to reach a wide range of consumers without a large investment in physical infrastructure (other than for ICT, which has broader uses). With the cost and time of financial service provision significantly reduced, resources can be dedicated to expanding reach, which makes smaller transaction markets more attractive from a business perspective. This has implications for lowering the cost of remittance transfers.
Second, fintech can reduce collateral requirements and cut monitoring costs, and provide alternative credit-scoring methods where borrowers lack credit history. Online marketplaces are able to extend loans to small and micro firms active on their platforms owing to the extensive data they are collecting. Fintech can facilitate registration of asset ownership; this can serve as a security measure, allowing more agents to access credit, and facilitate matching between different investors and project/business owners. Improvements to the business environment, such as secure land tenure and property rights, can also raise investment levels. Digitalization can improve registration procedures, and a few initiatives are looking into how blockchain can be used to expand and simplify land and property registration.
The main benefits of digital technologies in development cooperation delivery are cost-savings and efficiency gains through timely and better-targeted responses, reduced risk of fraud, and a better understanding of impacts, and thus better program and project design and implementation. As an example, biometric registration data of Syrian refugees in Jordan and Lebanon, collected by UNHCR, is then used by agencies to authenticate identity at ATMs and point of sale. Blockchain technology can help improve humanitarian emergency response coordination, such as digitalizing payments to response workers under the Ebola crisis in Sierra Leone, which helped reduce strikes, fraud and traveling time for workers.
Satellite imagery, mobile phone data and AI technology can help identify, predict and target poverty interventions where information is missing, track the movement of displaced people or climate-related changes, and can augment existing monitoring tools. To the extent that technologies increase transparency and accountability in development cooperation delivery, they could also help raise the general public willingness to provide support. As an example, through the International Aid Transparency Initiative (IATI), data systems and standards are already in place to track financial flows to development and humanitarian projects. Increasing numbers of publishers are adding results to their published projects and increasing traceability.
Increasing digitalization and globalization are creating new opportunities for trade. Digitalization helps small businesses and entrepreneurs in developing countries connect with global markets. It also creates new jobs and opens new ways of generating income, jobs and entrepreneurial opportunities. UNCTAD estimates show that some 100 million people are employed by ICT services globally, so far largely in developed countries. Cross-border business-to-consumer (B2C) e-commerce was worth about $189 billion in 2015, which corresponds to 7 per cent of total B2C e-commerce. At the same time, changing trade patterns due to digitalization (such as re-shoring, discussed above) could also have negative impacts for developing countries, whose integration into the digital economy will be critical for their ability to compete in global markets.
Blockchain technology also has great potential in trade finance, which is characterized by a large number of stakeholders and mostly paper-based documentation. Potential benefits include simplified processes, reduced settlement times, errors, fraud and disputes, and increased trust between all parties to a transaction. A group of banks have partnered with blockchain service provider IBM on implementing a new blockchain-based global system for trade finance. Similarly, IBM has teamed with another set of banks to build and host a new blockchain-based system for providing SMEs with trade finance. Digitization can also reduce the costs associated with know-your-customer and anti-money laundering rules, thus helping to counter some of the negative trends in correspondent banking.
Debt and systemic issues
The ability to collect more and better information can improve credit analysis and allow more agents to access credit. More generally, digitalization could enhance economic data collection, support early warning systems and improve risk preparedness. On the other hand, the provision of financial services outside existing supervisory and regulatory frameworks poses new challenges to the regulatory regime, which is currently structured around financial service-providing entities rather than activities. Regulators have already begun to address these issues in the context of cross-border transactions of virtual currencies. The Financial Action Task Force has called on countries to apply anti-money laundering measures to virtual currency exchanges. If virtual currencies were used on a larger scale, they could raise new financial stability risks, and even reduce the effectiveness of monetary policy.
Digital technologies and the Internet are generating vast amounts of (financial and non-financial) data, raising questions regarding who owns data and how it can and should be used. Governments need to strike the right balance of addressing privacy concerns without stifling beneficial innovations. There is also a need for capacity development in data management and data and process standardization. Efforts to support sharing of best practices in policy and regulation should be strengthened. As an example, authorities and regulators in Kenya (where mobile money was pioneered) are often credited for having put in place appropriate legal and regulatory frameworks guiding the use of digital technologies.