Informal financial services and decentralized apps

When thinking about financial services, it is very common to only consider what I’d call formal financial services. Formal financial services can be understood as the services we access through financial institutions and which are regulated by financial sector laws: bank accounts, mortgages, credit cards, stock brokerage, investment retirement accounts, etc.

There are millions of people in the world that need money to fulfil their needs, dreams and aspirations and don’t have access to these formal financial services. Yet those capital needs are being fulfilled by informal financial services.

You will find a multitude of such services with varying complexities, particularities or names deployed throughout the world (e.g. Hawala, Stokvel, Arisan) . Some of the most common include implementations of rotating savings and credit associations (ROSCAs), accumulating savings and credit associations (ASCAs), informal moneylending, loan brokers and burial societies.

In my view, the essence of an informal financial service is it being self organized and run by a group of people with a common (financial related) goal and without requiring the participation of a formal financial institution. I think this inherent decentralized nature of informal financial services makes them perfect use cases for decentralized applications built on top cryptocurrencies. Additionally, the properties of cryptocurrencies could be used to significantly improve these services, namely:

  • Trust – informal financial services heavily depend on the existence of trust between all participants. Participants are usually somehow socially connected and the only incentives to behave appropriately are related to fear of being socially excluded. A cryptocurrency would allow these services to run without trust among participants.
  • Security – informal services tend to live on the fringes of the financial system and as a result tend to not have the most secure mechanisms for storage and transport of value.
  • Software – to my knowledge most of these schemes run without using much (if any) software. The use of software alone could bring massive improvements to how these services are managed, distributed, monetized or used.

For these reasons, I think cryptocurrencies can have a transformative impact on informal financial services (probably even more significant than in formal financial services) and I am curious to see what the next years will bring.

I have been wanting play around with Ethereum/Solidity for a while since it seems suited for this kind of applications. In the coming weeks, I will try to code a simple contract for Xitique, an informal rotating savings and credit association popular in Mozambique.