For release on delivery
9:15 a.m. EDT
July 9, 2024

Financial Inclusion: Past, Present, and Hopes for the Future

Remarks by
Michael S. Barr
Vice Chair for Supervision
Board of Governors of the Federal Reserve System
at

Financial Inclusion Practices and Innovations Conference
Board of Governors of the Federal Reserve System

Washington, D.C.

July 9, 2024

Thank you, Art, and let me say how excited I am to be a part of the Federal
Reserve Board's inaugural conference on financial inclusion and innovation.! Financial
inclusion is central to the Federal Reserve's mission of promoting a strong and stable
financial system and a healthy economy that works for everyone. This event brings
together academics, practitioners, and thought leaders to discuss how financial products
and practices are evolving to better meet the needs of individuals and businesses
historically underserved by the financial system.

I have spent much of my career in the public sector and academia working on
topics related to financial inclusion. I've found that projects that bring together public,
private, academic, and nonprofit perspectives are often the most productive, since we all
approach the issue differently and can learn from each other's perspectives. Forums like
these provide good opportunities to form connections and spark collaboration.

Looking over the past few decades, significant progress has been made in
improving financial inclusion, including progress on many of the issues that will be
discussed at this conference. And yet we still have further to go. Continued support for
responsible innovation in this space is needed and can benefit from engagement across
industry, academia, and regulators. This morning, I will touch on how approaches to
financial inclusion have evolved, where things stand today, and how we can continue
progress toward a more inclusive financial system.

Advancing the Goals of Financial Inclusion
The goal of financial inclusion is to improve access to affordable financial

services that meet the needs of individuals and businesses. Banking the unbanked is part

' The views here are my own and do not necessarily reflect those of my colleagues on the Federal Reserve
Board or the Federal Open Market Committee.

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of that, but we also need to make sure that both bank and nonbank products and services
are designed to meet the financial service needs of low- and moderate-income
households. And we need strong consumer protections to guard against abuse.

Banks are playing a pivotal role in innovating to serve low- and moderate-income
households, sometimes in partnership with financial technology companies, or fintechs.
For example, we have seen a growing number of banks offering small-dollar loans,
expanding use of alternative data to underwrite and price their credit products, and
investing in tools to help better understand consumers' financial health. When adopted in
a responsible and well-managed manner-with systems, processes, and policies in place
to monitor and manage related risks-these innovations can broaden access to fair,
affordable, and transparent bank-provided credit. This in turn can create financial
resilience among small businesses and help individuals and families become
homeowners, build wealth, and become financially empowered.

The Importance of Durable Inclusion

Innovations in banking services are important to improving financial inclusion.
But to have a durable impact on society, innovations must be adopted responsibly. Banks
must have controls to manage risks and prevent violations of law, and their approach
must keep pace with the growth of new products and services. Complexity can
exacerbate risks and requires banks to pay particular attention to ensure that laws are
followed and customers protected. To the extent banks are working with fintech partners,
banks have a responsibility to manage the risks associated with the third parties they

partner with to serve their customers.

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We have, unfortunately, seen examples of failures of banks to effectively manage
the risks of partnerships with other companies that support services to their end
customers, and these failures have resulted in customer harm. In communities where
people are living on tight budgets or with limited access to financial services, disruptions
of this kind can be catastrophic. These examples are a reminder that providing
innovative financial services comes with responsibilities to ensure that risks are
appropriately controlled. Durably supporting financial inclusion means ensuring that
necessary controls grow in step.

Use of Alternative Data

We do see great promise to improve financial access when innovation is done
with the appropriate risk controls in place. One such promising avenue is the use of
alternative data in credit decisions involving small-dollar loans. Historically, access to
the financial system was limited for many households and small businesses that lacked
key financial credentials. For example, traditional credit models favor an applicant that
already has a sufficient credit history and a file from a credit reporting bureau to qualify
for lending. This leads to a catch-22 where lower-income applicants with scant credit
history but ample ability to repay are denied access to credit because they do not have a

credit history.? As a result, many lower-income households, both banked and unbanked,

? The Consumer Financial Protection Bureau reports that, as of 2016, 26 million Americans (11 percent of
adults) do not have a credit record at one of the three national credit reporting agencies. See Kenneth P.
Brevoort and Michelle Kambara, CF'PB Data Point: Becoming Credit Visible (Washington: Consumer
Financial Protection Bureau, June 2017),
https://files.consumerfinance.gov/f/documents/BecomingCreditVisible_Data_Point_Final.pdf.


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end up using a range of formal and informal services outside the banking system that too
often keep households in a cycle of debt.?

Actions by the Federal Reserve have supported the opportunities, as well as
identified potential risks, associated with innovations in bank products and practices
marketed to those who have limited access to the financial system. In 2019, the Federal
Reserve's alternative data statement highlighted the benefits and risks when banks and
nonbank firms leverage alternative data in credit underwriting, particularly for borrowers
that have been locked out of conventional borrowing.* This guidance underscored the
potential benefit of using data that has a clear connection to creditworthiness, such as
information on inflows and outflows from a bank customer's deposit account. With the
share of households with bank accounts much larger than the share with credit scores and
especially with prime or near-prime credit scores, this information has the potential to
allow underwriting of a much larger pool of potential reliable borrowers. In addition, in
2020, the Federal Reserve issued principles for responsible small-dollar lending, typically
uncollateralized loans of less than $2,000 that often leverage alternative data while being
underwritten.> This guidance has encouraged the spread of these types of loans to

households and small businesses that otherwise have had limited access to credit.® In

3 For example, see Michael S. Barr, "Financial Services, Savings and Borrowing Among Low- and
Moderate-Income Households: Evidence from the Detroit Area Household Financial Services Survey" (3rd
Annual Conference on Empirical Legal Studies Papers, March 30, 2008),
https://dx.doi.org/10.2139/ssrn.1121195.

4 See Board of Governors of the Federal Reserve System, "Interagency Statement on the Use of Alternative
Data in Credit Underwriting," CA letter 19-11 (December 12, 2019),

https://www. federalreserve.gov/supervisionreg/caletters/caltr1911.htm.

5 See Board of Governors of the Federal Reserve System, "Interagency Lending Principles for Making
Responsible Small-Dollar Loans," SR letter 20-14 / CA 20-8 (May 20, 2020),

https://www. federalreserve.gov/supervisionreg/srletters/SR2014.htm.

° For more details on the impact of small-dollar loan guidance, see Daniel Gorin, Sarah Gosky, and
Michael Suher, "Empirical Assessment of SR/CA Small-Dollar Lending Letter Impact," FEDS Notes
(Washington: Board of Governors of the Federal Reserve System, July 28, 2023),
https://doi.org/10.17016/2380-7172.3329.


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addition, given the small but growing number of banks partnering with fintechs for
alternative data and small-dollar lending, among other things, the Federal Reserve issued
guidance in 2023 and 2024 on how to responsibly manage these third-party
relationships.' Taken together, these statements are helpful resources to ensure that
banks are using the technological innovations from these third parties in safe and
responsible ways.

As noted in the alternative data guidance, alternative data can be sourced from a
bank's own relationship with its customers. And evidence from research and industry
experimentation suggests that information on cash flow from an individual's bank
account can help predict credit risk while expanding credit access.®

We are already seeing progress in this space. Banks and credit unions of all sizes
are starting to use alternative data to offer small-dollar loans to their existing customers
with short-term liquidity needs. Given the early promise of these loans, this area seems
particularly suitable for banks to innovate and experiment safely and fairly, within the
confines of safety and soundness standards and consumer protection laws.

In addition, banks and others have done extensive work over the past few years to
measure the impact of bank products on the financial outcomes of customers. Among
those metrics are a set of financial health indicators around a customer's cash flow and

payment history that capture their ability to meet their own short-term liquidity needs,

7 See Board of Governors of the Federal Reserve System, "Interagency Guidance on Third-Party
Relationships: Risk Management," SR letter 23-4 (June 7, 2023),
https://www.federalreserve.gov/supervisionreg/srletters/SR2304.htm; and Board of Governors of the
Federal Reserve System, "Third-Party Risk Management: A Guide for Community Banks," SR letter 24-2 /
CA 24-1 (May 7, 2024), https://www.federalreserve.gov/supervisionreg/srletters/SR2402.htm.

8 For example, see FinRegLab, "The Use of Cash-Flow Data in Underwriting Credit: Empirical Research
Findings," https://finreglab.org/wp-content/uploads/2023/12/FinRegLab_2019-07-25_Research-
Report_The-Use-of-Cash-Flow-Data-in-Underwriting-Credit_Empirical-Research-Findings.pdf.


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build financial capacity, and affordably access financial services over time.? Such
indicators can help banks better understand the impact of their products and services on
their customers, so that they support their customers' longer-term financial resilience.
These indicators can also equip customers with the transparency and tools to assess
financial service offerings.
Potential of Instant Payments

I'd also like to highlight the potential for real-time payment systems-including
FedNow® and private sector systems-to advance financial inclusion. These services
will enable banks to offer customers the ability to send and receive money immediately,
which can help customers weather income disruption and unexpected expenses. By
reducing payment delays and the high costs for consumers associated with those delays,
FedNow can over time improve access to the financial system and lower costs.
Increased Access to Consumer Data

I'm also interested to see how increased access to consumer-authorized data will
change the landscape for innovation. As the rules, regulations, and practices related to
expanded access and sharing of customer-permissioned data flows evolve, consumers
may benefit from having a fuller picture of their financial life to better understand ways
to improve their financial health. Customer-permissioned data access, alongside
innovations in digital identity, also has the potential to allow banks to better assess a
borrower's creditworthiness, increase customer access to financial services, offer
customized and innovative financial products, and empower individuals to move more

freely in the emerging digital financial system. Of course, bank adoption will play a key

° Examples of financial health indicators include a customer earning more than they spend monthly, having
access to adequate savings, and maintaining a prime credit score.

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role in unlocking the power of such innovation. As with most innovations, regulators
will need to ensure appropriate measures are in place to protect consumers and promote
financial stability. For example, regulators will need to be diligent so that the entities to
which consumers grant access to their data safeguard privacy and data security.
Community Reinvestment Act: Past, Present, and Future

Let me turn now to the importance of the Community Reinvestment Act (CRA)
and its role in advancing financial inclusion. As we know well, access to financial
services and credit is fundamental to economic security and vital to strong communities.
This access is the foundation of homeownership, education, small business development,
and other economic activities that improve our lives and neighborhoods. I want to relate
these values to the CRA and the Federal Reserve's commitment to encourage access to
credit in low- and moderate-income communities.

Congress enacted the CRA in 1977 as one of a set of laws, together with the
Home Mortgage Disclosure Act, the Fair Housing Act, and the Equal Credit Opportunity
Act, to address redlining, other forms of racial discrimination, and lack of access to credit
in low- and moderate-income communities. Fair lending laws set the unequivocal
standard that there is no place for such discrimination in the financial system. Federal
banking agencies reinforce this standard by taking a bank's fair lending record into
account when assigning a CRA rating and evaluating whether banks meet the credit
needs in low- and moderate-income communities, consistent with safe and sound lending.

Through the enactment of the CRA, Congress charged the Federal Reserve and
other federal bank regulators with the responsibility of assessing the performance of

banks in meeting the credit needs of low- and moderate-income communities.

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Throughout the CRA's nearly 50 years of supervisory history, the agencies have strived
to provide guidance that reflected dynamic changes in the financial landscape and at
some points in time revise the regulations to do so.

Last October, the federal bank regulatory agencies issued a final rule to strengthen
and modernize the regulations implementing the CRA.'° Prior to the issuance of the final
tule, the regulations had not been significantly updated since 1995. Throughout the
rulemaking process, bankers and community groups consistently emphasized the need for
greater clarity, consistency, and transparency than was provided under the existing rules
and guidance.

In response, much of the detail in the final rule is designed to provide the desired
additional clarity. The final rule standardizes the evaluation approach so that it is more
consistent across the agencies and more transparent to banks and the public. It does this
in a way that builds on how CRA examinations are conducted today.

The final rule includes several provisions intended to advance financial inclusion.
For example, it emphasizes the work that minority depository institutions (MDIs) and
community development financial institutions do to expand access to credit and
opportunity in underserved communities. It also includes a focus on activities that serve
Native Land Areas, persistent poverty areas, and other high-need areas.

We take our supervisory responsibilities under the CRA seriously, knowing that it
helps to foster real opportunity for consumers and communities. The CRA has served as
a critical tool to support financial inclusion across the country since its passage and will

remain a vital tool for bankers and community organizations to work together to promote

'0 Community Reinvestment Act, 89 Fed. Reg. 6,574 (February 1, 2024),
https://www.govinfo.gov/content/pkg/FR-2024-02-01/pdf/2023-25797.pdf.


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financial inclusion and economic development in low- and moderate-income
communities.
The Future of Financial Inclusion

Given the importance of innovation to the goal of financial inclusion, I am
grateful that we have been able to gather so many experts on topics related to it.

While we have made considerable progress, we need to continue our efforts to
support greater inclusion and a financial system that meets the needs of all Americans.
At the Federal Reserve, we will continue to work to improve our understanding of the
innovations in financial inclusion, and the intersection of payments innovation and
financial inclusion, among others. We also will use our position to monitor innovations
that have financial inclusion implications-such as alternative data use and financial
health measurement-and keep the public informed on the evolving industry practices
that help meet the needs of the financially underserved. For example, we expect to
provide additional resources on alternative data use in the coming months. In addition,
the Fed's Partnership for Progress program helps MDIs and women's depository
institutions (WDIs) navigate their unique business challenges, provides MDIs and WDIs
with resources for technical assistance, and conducts research on the unique challenges
faced by low- and moderate-income communities.!! We also actively partner with Native

American communities to better understand their financial needs.

"I Details about the Partnership for Progress program for MDIs and WDIs can be found in SR letter 21-6 /
CA 21-4. See Board of Governors of the Federal Reserve System, "Highlighting the Federal Reserve
System's Partnership for Progress Program for Minority Depository Institutions and Women's Depository
Institutions," SR letter 21-6 / CA 21-4 (March 5, 2021),

https://www. federalreserve.gov/supervisionreg/srletters/SR2106.htm.


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In addition to the Federal Reserve's role, the private sector is a key source for
financial innovation, and we encourage businesses to responsibly innovate so that new
tools that can increase financial inclusiveness are safe for customers and consistent with
financial stability.

We would all benefit from additional research in this area. For instance, how do
we help ensure that expanding access to fair and affordable credit advances safe and
sound lending? Empirically, which innovations are best able to meet customer needs
safely and affordably, maintain bank safety and soundness, and promote a healthier
economy? And how can we leverage concepts in behavioral economics to improve the
effectiveness of credit products? I hope the conversations in today's conference can
spark productive dialogue and spur potential research in these areas.

Conclusion

In closing, my hope is that these kinds of efforts, as well as continued innovation
in the banking system, can bring us closer to a time when all families and communities in
our country have adequate access to credit and financial services on fair, affordable,

transparent, and accessible terms.