Money makes the world go round

Among the many challenges that low- and middle-income countries (LMICs) face, financial development and stability are two of the most pressing. Without financial services and markets, development and progress in reducing poverty simply cannot be achieved. It’s hard to imagine an economy without a banking system in place; banks perform a unique service in transforming and managing risk by taking in short-term deposits and recycling these funds into long-term loans. 

Alongside financial services and markets, financial depth is key to mitigating shocks like the adverse impact of abrupt halts to capital flows during the COVID-19 pandemic. Transitioning to deeper financial markets by harnessing financial innovations while maintaining financial stability is a key policy question which many LMIC policymakers are focusing on. 

Financial innovation is reshaping the economic landscape across LMICs. It is not simply about new technology; it is about overcoming some of the most persistent barriers to development: high transaction costs, limited physical financial infrastructure, information asymmetry, income volatility and weak state capacity. In this article, we look at how innovations in mobile money, digital identification, real-time payments, alternative data credit, insurance technology (insurtech), digital public infrastructure (DPI) and new capital market tools are delivering transformative opportunities for households, firms and governments. 

Why this matters 

Financial innovation has become one of the most dynamic drivers of economic development in LMICs. New digital technologies – mobile money, agent banking, instant payments, open finance, alternative data credit models, digital ID systems, insurtech and capital market innovations – are reshaping how households, firms and governments engage with the financial sector. 

These innovations are not merely technological upgrades. They represent structural shifts that reduce transaction frictions (costs and barriers), expand access, mobilize savings for much-needed investment, deepen credit markets, mitigate risk and improve the efficiency of public sector delivery – basically, the financial deepening mentioned above. 

In markets where informality is high, documentation is scarce and financial infrastructure is thin, financial innovation effectively substitutes for underdeveloped physical or institutional systems. As we saw in the early 2000s, when mobile phone technology leapfrogged fixed line inefficiencies in many LMICs, financial innovations are now helping to overcome some of the “bricks and mortar” barriers embedded within the financial sector that hold back development. 

How it drives development 

Financial innovation is already driving development in several ways as well as differentiating development between regions; there is no “one-size-fits-all”. 

• Inclusion and access: Mobile enabled platforms and simplified electronic Know Your Customer (eKYC) processes allow millions of unbanked people to join the formal financial system. 

• Cost reduction and efficiency: Real-time payments and digital wallets lower transaction costs while increasing speed and reliability. 

• Resilience and risk management: Parametric insurance (paying a fixed amount for a predefined event, without loss assessment), digital remittances and digital G2P transfers (goods-to-person, or government-to-person financial services) help households withstand shocks. 

• MSME growth and formalization: E-invoicing, digital tax systems and supplychain finance facilitate credit access and bring informal firms into the formal ecosystem. 

• Climate and capital mobilization: Green bonds, blended finance vehicles and digitally enabled securitizations crowd in long-term finance. 

These benefits, however, are regionally differentiated as highlighted below. The conditions that have enabled mobile money services to flourish in Sub-Saharan Africa (such as M-PESA, which allows for payments and transfers without a bank account) are distinct from those enabling open finance ecosystems in Latin America or digital public infrastructure breakthroughs in South Asia. Understanding these differences is essential for designing effective financial inclusion strategies. 

What works best for poverty reduction? 

Given the range of innovative options and at the same time the variety of challenges, it can be slightly bewildering to know what works best. But while there is no “one-size-fits-all” solution, we can identify innovations that offer the most promise in terms of reducing poverty, suggest several regional priorities and highlight some of the policy implications that need to be considered. 

Poverty impact 

Across developing regions the innovations with the strongest evidence for poverty reduction include: 

1. Mobile money and digital financial services (especially in SSA): Increase resilience, reduce costs and support savings. 

2. PAYGo energy and productive assets: Improve welfare and income; foundational in SSA. 

3. Parametric and health microinsurance: Reduce vulnerability to climate and health shocks, especially in SSA and Asia. 

4. Digital ID + G2P platforms: Reduce leakage and improve targeting; transformative in Asia and increasingly adopted in SSA. 

These innovations work because they resolve binding constraints for poor households: distance, information gaps, identity barriers and exposure to shocks. 

Regional priorities 

SSA can build on several existing areas by prioritizing the already successful mobile money platforms by enhancing interoperability between platforms. Agent network expansion and consumer protection frameworks for digital lending are other areas that could be improved. Other areas include expanding PAYGo energy and irrigation finance with blended finance and local currency support, scaling climate-risk insurance bundled with seed/input finance and supporting digital ID expansion and national level payments switches. 

Developing Asia can grasp the opportunity to strengthen and expand public digital infrastructure (ID, payments, eKYC), deepen open finance frameworks to unlock competition and SME lending, promote QR-based merchant acceptance to digitize micro-retail while expanding health and agriculture microinsurance via digital distribution. 

Latin America & the Caribbean can build on successful achievements to date by leveraging real-time payments and opening up finance to reduce costs and foster competition. Scaling digital bank models to reach underserved populations offers promising returns, as do accelerating e-invoicing–based MSME credit and securitization platforms for SME/PAYGo portfolios. 

Policy implications

 There are two main actors that can facilitate and develop the innovation space: multilateral development banks (MDBs) and their government counterparts (mainly central banks and financial sector regulators). For MDBs there is a range of offerings to support, which encompass efforts to deploy blended finance for PAYGo, MSME receivables and climate insurance; investing in digital public infrastructure and regulatory capacity; supporting the creation of credit information systems, Open Finance APIs and collateral registries; using results-based financing mechanisms to scale adoption of solar, insurance and merchant digitization; as well as convening markets to establish standards for green/social bonds and digital lending transparency. 

For governments, central banks and financial regulators, their focus would be well-served by promoting Tiered KYC, proportionate e-money regulation and transparent pricing rules, implementing interoperability mandates and inclusive QR/payment standards; strengthening consumer protection for digital credit, including affordability tests and grievance mechanisms, overseeing data governance frameworks to support responsible open finance ecosystems, modernizing movable collateral frameworks, e-signature laws and credit reporting mandates while also adopting a cautious, problem-driven approach to Central Bank Digital Currency or stablecoin experimentation. All of these are necessary but difficult to implement given capacity constraints and legal hurdles. 

Innovation is reshaping financial systems and development opportunities across LMICs, but context matters: SSA thrives on mobile-first models that overcome physical infrastructure gaps; Asia excels in DPI-driven innovation and platform-based finance, while LAC leads in open finance, digital banking and capital market depth. This highlights the need to match innovation to regional conditions. 

But there is also a need to focus on high-impact models that reduce poverty and support resilience, invest in the public and regulatory infrastructure that makes innovation safe, scalable and sustainable as well as to focus on the most immediate gains that come from proven technologies. 

What will success look like? It will require balancing all the above, along with safeguards to ensure foundational digital infrastructure for widespread poverty reduction and sustainable financial inclusion. A lot to ask for in very challenging circumstances.