Can behavioural Economics influence rates of Savings in Developing Countries

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One and a half billion people in the world live in conditions of extreme poverty, surviving on less than $1.25 a day (United Nations, 2010). Explanations as to why these people remain trapped in poverty range from the authoritarian, which contend that the poor are psychologically and attitudinally inferior to other members of society and as such require interventions from government, to the libertarian, which hold that the poor are rational individuals whose actions are informed by their own beliefs and values, rendering societal interventions unnecessary. Economists have countered these theories by suggesting that poverty is not a psychological weakness but rather the consequence of behaviour, influenced by the same behavioural biases and irrationalities that affect other members of the population. However, for the poor these biases have a much graver impact. Savings are an important aspect of development; they help to fund education, entrepreneurship and healthcare. It is vital that policies attempt to increase the number of people in the developing world who are saving their money in financial institutions.

Importance of Saving in Developing Countries

Saving money is crucial for development; it allows individuals to have enough capital to invest in education and pay for healthcare and it facilitates entrepreneurship. Individuals can use money they have put aside to invest in and expand their business. The outcomes of a failure to save when on the poverty line can mean an inability to continue education or gain adequate healthcare. Access to banking is crucial in order to save. Without it individuals are left with few options; they can save at home, but this does not generate any interest; or they can use savings options.  Banerjee and Duflo (2006) surveyed individuals in 13 developing countries and discovered that, when money was borrowed, 6% came from a formal source. Only 14% of those surveyed had savings accounts. The number of people in the world without access to banking services may total 2-3 billion. Financial institutions have been reluctant to provide services in these areas; a disproportionate number of those without bank accounts are poor, and therefore offering such services may not be profitable.

Though people living in the developing world must survive on extremely little money, this does not automatically result in an inability to save. Instead, Banerjee and Duflo (2006) found that individuals living in poverty still spend money on extraneous items such as religious festivals, alcohol and tobacco and express wishes to curtail their spending on such products. There are indications that people in the developing world want to save and that they form strategies to combat their lack of access to traditional financial institutions. The presence of informal savings groups such as rotated savings and credit associations (ROSCAs) are a testament to this. Saving using these mechanisms can involve large risks, yet, as it may be the only opportunity these people have to save, they continue to use them. These schemes allow a group of people to contribute their savings into one fund which is loaned out to different members in turn.

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Dupas and Robinson (2009) found that, though women in rural Kenya had large constraints on savings, the desire to save still remained. Forty percent of participants in an experiment accepted a savings plan even though it offered a negative real interest rate, as the bank in question had high withdrawal fees. In spite of these high transaction costs, take up of the plan led to savings.

This essay will argue that behavioural economics can use insights from studies to influence rates of savings.

 

References:

Ashraf, N., Karlan, D. and Yin, W., 2006. ‘Tying Odysseus to the Mast: Evidence from a
Commitment Savings Product in the Philippines’. Quarterly Journal of Economics, 121 (1), pp. 635– 672.

Banerjee, A.V. and Duflo, E., 2010. ‘Giving Credit Where it is Due’. The Journal of Economic Perspectives, 24 (3), pp.61-79.

Banerjee, A.V. and Duflo, E., 2006. ‘The Economic Lives of the Poor’. Journal of Economic Perspectives, 21 (1), pp.141–167.

United Nations, 2010. ‘The Millennium Development Goals Report’. United Nations. In: UN Summit on the Millenium Development Goals. United Nations, New York, 20-22 September 2010.

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