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This article was contributed by Frederik Bussler, consultant and analyst.
Around one in four American adults are underbanked, meaning they are underserved by traditional finance, and rely on high-fee alternative financial systems. For underbanked Americans, getting a loan or a credit card can range between being either difficult or next to impossible. For those who do have a credit score, it’s often not a very high one. As a result, these Americans turn to money orders, payday lenders, and check cashing services.
Underbanked Americans are much less capable of ‘getting ahead’ financially, which further perpetuates the cycle of poverty. To break this cycle, we need to find a way to get Americans in this position equitable access to traditional financial services. Without it, everything from paying bills and depositing checks to starting a business or renting an apartment is more difficult.
Traditional credit scores are outdated and often irrelevant in today’s economy. They fail to account for data like employment history and financial behavior, which are important factors in predicting credit risk. This is where artificial intelligence (AI) comes in and how AI could make your credit score obsolete.
AI is enabling better credit systems and early wage access
AI can help lenders assess a borrower’s risk more accurately. It can do this by analyzing data that is not included in a traditional credit score, like whether the borrower spends their capital on necessities or luxuries. AI could also help lenders identify potential risk factors that may not be obvious, like whether a borrower is using too much of their available credit.
This means that, in the future, AI may be able to replace traditional credit scores altogether. This would allow more Americans, including those who are unbanked, to gain access to traditional financial services. In addition, this would help to reduce the risk of default for lenders, which would lead to lower interest rates and fewer fees.
For example, in the U.S., FinTech startup B9 raised $5 million to bring early wage access to the market. This service allows employees to get their full paychecks 15 days early, without having to pay any fees. The company does this by using AI to predict a borrower’s risk level, fueled by data like the user’s paychecks, employment history, age, and financial behavior. That way, by providing insights into their financial behavior patterns, clients avoid the high-interest rates charged by payday lenders.
The traditional credit scoring model is a global problem. In Africa, for example, around 57% of the population is “credit invisible” — meaning they do not have a bank account or credit score. As a result, these people have a hard time getting approved for a loan or a credit card. This is where AI comes in again. AI-powered credit tools like Weza and CredoLab are leveraging alternative data like phone metadata to ensure that anyone can gain access to financial services.
Empowering the underserved
These AI-based solutions are empowering the underserved by giving them access to traditional financial services. This, in turn, is helping to break the cycle of poverty and improve their ability to get ahead financially.
In fact, one analysis found that providing access to traditional financial services increased the presence of businesses in the area by 7.6% while driving higher income levels. This is because traditional financial services allow people to save money, invest in their businesses, and make purchases that they couldn’t otherwise make.
AI is making it easier for lenders to assess a borrower’s risk, which is leading to lower interest rates and fewer fees. This is helping to empower the underserved by giving them access to traditional financial services.
Financial inclusion can even increase economic growth. A study by the International Monetary Fund found that, for a country with a low level of financial inclusion, improving financial inclusion to the 75th percentile would lead to a 2% to 3% increase in GDP growth. This is because when more people have access to traditional financial services, they are able to participate in the economy more fully.
While AI won’t replace credit scores overnight, it is clear that it has the potential to do so in the future. This would be a game-changing development, as it would give up to 1.7 billion people around the world access to traditional financial services.
Frederik Bussler is a consultant and analyst, with experience across innovative AI platforms such as Commerce.AI, Obviously.AI, and Apteo, as well as investment offices such as Supercap Digital, Maven 11 Capital, and Invictus Capital. He has been featured in Forbes, Yahoo, among other outlets, and has presented for audiences including IBM and Nikkei.