# **1. Introduction**

Access to finance is strongly associated with poverty reduction worldwide (World Bank, 2008). For Mexico, evidence suggests that many poor and lower middle-class individuals are creditconstrained and that relaxing these constraints has high returns. For example, McKenzie and Woodruff (2008) show that small injections of working capital funding have monthly returns of 15 percent or more for microenterprise owners. Bruhn and Love (forthcoming) find that a rapid expansion of bank credit serving low-income individuals led to increases in income and employment. Lack of access to finance has also meant Mexican households have been unable to smooth consumption in the face of income shocks (Attanasio and Székely, 2004, McKenzie, 2006). These factors illustrate the great potential for increases in access to savings and credit to benefit low-income individuals.

However, as access to financial services expands around the world, there is also a growing concern that many consumers may not have sufficient information and financial acumen to use these new financial products responsibly. Such concerns are particularly pressing in middleincome countries such as Mexico, which have seen rapid expansions of access to finance in recent years, bringing many low-income individuals into the formal financial system for the first time. The number of credit cards has doubled during the past five years, and in urban areas an increasing number of credit card holders are now poorer and less-educated individuals. According to the 2008 Mexican Income and Expenditure Survey (ENIGH), 42 percent of households making a credit card payment had a head with less than high school education, and one in six had only primary education or less. Lower educated households are more likely to make unsophisticated decisions (Lusardi and Mitchell, 2011). These unsophisticated decisions can lead to lower efficiency and competition in the credit card market and, as this market grows, they could also have implications for the stability of the financial system as a whole.

The recent global financial crisis has emphasized the importance of over-indebtedness on systemic risk. Low levels of financial literacy were arguably one important factor leading many homeowners in the U.S. to take out mortgages exceeding their means.<sup>1</sup> During the subprime mortgage crisis, individuals with lower financial literacy were more likely to be delinquent or to default on their mortgage (Gerardi, Goette, and Meier, 2010).<sup>2</sup> In Mexico, nearly 10 percent of all credit card holders fell delinquent on their payments in February 2009, double the U.S. rate.<sup>3</sup> Many of these are low-income individuals who are first-time card holders. In addition, the financial crisis highlighted the need for building up sufficient savings to smooth consumption in

> 1 Although see Willis (2011) for a dissenting opinion.

> 2 In contrast, individuals with higher financial literacy are more likely to strategically default on underwater mortgages after the crisis (Burke and Mihaly, 2012).

> 3 Source: “Reigning in the Credit Card Industry”, PRI’s The World, May 11, 2009 [http://www.pri.org/theworld/?q=node/26252]