Independent Research and Policy Advocacy

‘Financial products must be behaviourally informed’

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Ever signed up for the gym but failed to go regularly? You are not alone. There are numerous occasions where we take a decision that is not always ‘optimal’. This phenomenon does not only apply to everyday life. It also applies to the financial behaviour of all of us and can easily have a huge impact on how we manage our money. There has been a lot of innovation in the delivery channels for financial products. Bank channels have been liberalised and thanks to technology, cost of transactions have been reduced by 90% over the past two decades. Despite these developments, research shows that people do not always take the “best” financial decision from a rational point of view. Far too often people simply over spend, for instance, or meet their working capital requirements through borrowing rather than savings. Why do we so often make ‘sub-optimal’ choices and how can financial products be better designed by understanding such behaviour?

IFMR Finance Foundation and ideas42, in collaboration with the Center for Innovative Financial Design (CIFD), recently conducted a workshop on Behaviourally Informed Product Innovation. Professionals from product development teams of organisations such as banks, NBFCs, microfinance institutions and others offering financial services took part in the workshop that also had academicians, researchers and practitioners from the IFMR Ecosystem. They were introduced to the financial behaviour aspect of customers and its implications for financial product design.

The workshop focused on understanding customer behaviour in order to deliver the right financial products through the right channels because, the need of the hour is to graduate from supply led design to demand led design. “Instead of deciding for the clients, financial service providers must focus on designing an architecture that offers choice”, said Suyash Rai of IFMR Finance Foundation.

Piyush Tantia, Research Director at ideas42, said that people don’t necessarily make use of the available technology or education in order to make the best decision. A case in point was the recent sub-prime crisis in the US where both were available in plenty and yet the decisions were far from being optimal. According to research, many factors decide human behaviour and there is no reason why financial behaviour should be excluded. Observations made by researchers conclude that people tend to focus on something immediate and that require attention. While financial savings is present at the back of the mind, people are generally pre-occupied with day-to-day activities that demand intense focus and hence the tendency to postpone.

Self-control also has a lot of impact on decision-making and people choose between an immediate reward and a perceived reward at a later point of time.

An interesting experiment revealed that people make an optimal choice when they are given solutions to potential problems that might arise in the course of an action. For example, people avoid opening a bank account because the documentation process could simply be overwhelming or, they may not possess the necessary documents. If they were given clear instructions on the documentation or if they were given a list of alternatives in case a specific document was not available, where it may be obtained etc. they might be more willing to go through the exercise.

Similarly, contrary to popular belief, people do not prefer an overwhelming number of choices. An experiment conducted in a supermarket revealed that when faced with a choice of only 6 types of jams, 30% of people ended up buying them but when the number of choices increased to 21 varieties, only 6 % ended up buying because, they simply over-whelmed by the number of choices available.

Financial product innovation must take into account these behavioural drivers of financial decision making, because innovation does not always lead to positive outcomes. In fact, they may end up in some unintended harm. For example, a very flexible savings mechanism would mean that there is no hard commitment device like a monthly meeting or savings collector. Electronic money, while undoubtedly has numerous advantages, takes away the power of physical real-time budget feedback which would otherwise be available if people had hard cash.

The need to understand customer behaviour also has direct implications for the product innovation process. In addition to studying what people say they want, it is also essential to observe how they behave in the actual situation of decision making.

To illustrate a behaviourally informed product innovation process, Anil Kumar and Dominik Bulla from CIFD presented three case studies. The Pregnancy Financing product was designed to test the idea of exploiting a customer’s savings behaviour as a predictor of her repayment behaviour. Saving Cards intends to create an impulsive saving moment for individuals, which make them more likely to save money.  The Hand Loan product that has been launched in close collaboration with Dhanei KGFS in Orissa is an uncollateralized small ticket loan that helps individuals to cope with short term financial emergencies. All three case studies demonstrated that product innovation is no straightforward process. Often, translating behaviourally derived product ideas into feasible prototypes poses many challenges in reconciling the different requirements. This emphasises the need to repeat several round of field tests in order to determine what design works best not only behaviourally but also from a financial and operational perspective. In this respect, iterations of the product design must be based on reliable information on how product users actually behave on the ground, making a sound methodology of data collection for the product assessment an important aspect.

It is important that financial service providers understand the behaviour of people while rolling out products. More so while offering services to the poor because the irony of poverty is that, it demands higher quality decisions from the poor as the stakes are higher for them, with little or no room for error.

[With inputs from Preethi K, Inner Worlds and Dominik Bulla, CIFD]

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