The Informal Economy and the Challenge of Financial Inclusion

ACCRA — Walk through any market district in Accra, Lagos, Nairobi or Dakar and the scale of Africa’s informal economy becomes immediately evident: thousands of small traders, artisans, transport operators and service providers conducting hundreds of thousands of daily transactions almost entirely in cash, outside the formal tax system and, for the most part, beyond the reach of banks, insurance companies or formal investment products. Estimates of the informal economy’s share of total GDP across sub-Saharan Africa range between 30 and 60 percent depending on the country and the methodology used — and when labor force participation is measured, the informal sector typically accounts for well over 80 percent of total employment. Understanding why financial inclusion for this population remains incomplete despite decades of effort, and what approaches have begun to make genuine inroads, is essential context for evaluating the promise and the limits of Africa’s financial inclusion progress.

The informal economy is not a monolithic category. It encompasses a vast range of economic activities with very different financial profiles. A wholesale trader in a major urban market may turn over more revenue in a week than a small formal employer does in a month, but operate entirely in cash and maintain no formal business registration. A smallholder farmer generating meaningful agricultural income operates seasonally, with income concentrated at harvest time and expenditure needs spread throughout the year. A domestic worker in a city household may receive a weekly wage in cash from an employer who does not issue payslips. A motorcycle taxi driver managing a small fleet of motorcycles for others may be an effective micro-employer with complex capital and revenue flows. Each of these economic actors has distinct financial needs that any meaningful inclusion strategy must address on its own terms rather than treating the informal economy as a single undifferentiated mass.

The barriers to formal financial access for informal workers are well documented if frustratingly persistent. Formal identification documents, which banks require for account opening and which most formal financial products demand as a baseline, are held by a lower share of the population in most African countries than official statistics sometimes suggest, particularly outside major cities and among older women in rural areas who may never have been enrolled in a national identification system. Address verification, required by banks and insurers in most markets, is essentially impossible for the large share of the urban population living in informal settlements without formally registered addresses. Income documentation requirements for credit products assume regular, verifiable earnings that informal workers, whose income is irregular and unrecorded, structurally cannot provide.

Mobile money has made the most significant structural dent in these barriers over the past fifteen years, by building a financial access mechanism around an asset — the mobile phone — that informal workers already own and use, rather than requiring them to interact with an institutional system designed around formal employment and documented income. The penetration figures are remarkable: in Kenya, mobile money account penetration among adults now exceeds formal bank account penetration by a significant margin, a reversal of the historic relationship between banks and alternative financial providers that has attracted sustained attention from policymakers and development economists globally.

But mobile money access, while a genuine and important achievement, is not synonymous with financial inclusion in the full sense. Having a mobile wallet used primarily for receiving and immediately spending cash transfers is meaningfully different from having access to savings products that offer a real return, credit products calibrated to actual repayment capacity, insurance that covers meaningful risks at an affordable premium and investment products that allow accumulated savings to generate long-term returns. The gap between basic payment access and this fuller conception of financial inclusion remains large across most of the continent, and closing it requires product design, distribution innovation and regulatory frameworks significantly more complex than those that enabled first-generation mobile money growth.

Savings groups — the chamas of Kenya, the susus of Ghana, the tontines of West Africa — remain one of the most important financial institutions for hundreds of millions of Africans who participate in them, precisely because they are built around the social structures and trust relationships of the informal economy rather than requiring engagement with formal institutions. Research consistently finds that participation in savings groups increases savings rates among members, provides access to short-term liquidity through intra-group loans and builds financial discipline habits that carry over into other aspects of members’ economic lives. Development organizations have invested in linking savings groups to formal financial institutions — offering group bank accounts, group insurance products or bulk disbursement channels — as a way of extending formal finance’s reach through social infrastructure that already exists and commands trust, rather than trying to displace it.

The tax dimension of informal economy financial inclusion is politically sensitive but economically important. Governments across the continent have invested in financial inclusion partly because formal financial accounts create transaction records that allow revenue authorities to assess and collect taxes from previously invisible economic activity. The prospect of being brought into the tax net has made some informal workers and small businesses cautious about formalizing their financial lives, creating a tension between the inclusion agenda and the revenue mobilization agenda that finance ministries have not always fully acknowledged. Several countries have attempted to address this tension by introducing simplified tax regimes for small and micro enterprises, with low flat-rate presumptive taxes designed to be affordable and predictable rather than assessed on actual income that informal businesses cannot easily document.

Access to credit for informal businesses remains one of the most significant unresolved challenges. Microfinance institutions, which expanded rapidly across Africa in the 1990s and 2000s, have provided loan access to millions of small entrepreneurs but have also faced periodic controversies over interest rates, collection practices and over-indebtedness among borrowers, particularly in markets where multiple competing microfinance providers have targeted the same client base without adequate credit information sharing. Digital lending, increasingly delivered through mobile platforms using behavioral data for underwriting, has extended small-ticket credit to millions of additional borrowers but has introduced its own set of concerns around transparency, consumer protection and the potential for digital debt stress to affect vulnerable borrowers who may not fully understand the terms of the credit they are accepting.

The agenda for more complete financial inclusion of Africa’s informal economy ultimately requires progress on multiple fronts simultaneously: universal digital identification, address systems that work for informal settlements, simplified business registration that meaningfully reduces the cost of formality, tax frameworks that make formal operation attractive rather than punitive, credit infrastructure that allows informal income streams to be assessed fairly and financial products designed around the actual cash flow patterns and risk exposures of informal workers rather than mapped imperfectly from products designed for formally employed customers. No single intervention resolves these barriers, which is precisely why the inclusion challenge has proven more durable than early optimism about mobile money’s transformative potential sometimes suggested. Progress is real, cumulative and consequential, but the distance still to travel is also real, and underestimating it serves neither the people most affected nor the institutions seeking to serve them.

Supply-side constraints on product design deserve as much attention as the demand-side barriers of documentation and trust. Many financial products offered to informal workers have been designed by institutions whose core customer is the formally employed urban professional, then adapted at the margins for informal use without fundamentally rethinking the underlying product structure. A credit product that requires monthly repayments of a fixed amount does not fit the income pattern of a seasonal farmer whose cash arrives once or twice a year. A savings product that penalizes early withdrawal does not serve a household whose most pressing need is access to liquid funds in an emergency. An insurance product that reimburses the policyholder for documented medical expenses does not work for a patient who was treated at an informal clinic that does not issue receipts.

The most successful financial products for informal economies have been designed from first principles around actual user behavior rather than adapted from formal-sector templates. M-Shwari’s design, which allows users to save and borrow in amounts as small as the equivalent of a few dollars and repay loans over a thirty-day cycle matching the monthly income rhythm of many informal workers, is a frequently cited example of product architecture that fits actual user needs. Agricultural mobile lending products calibrated to planting and harvest cycles, health microinsurance with cashless claim mechanisms that do not require documentation, and savings products with no minimum balance and no fees for frequent small transactions — these designs reflect genuine engagement with the economic lives of the people they are meant to serve, rather than the institutional convenience of the provider.

Looking across the full landscape of Africa’s informal economy, the most consequential financial inclusion outcomes of the next decade will likely be determined less by the availability of any particular technology and more by whether financial service providers — public and private, traditional and fintech — develop the sustained commitment, research investment and institutional patience to design, test and refine products genuinely suited to the irregular income patterns, limited documentation, social trust structures and specific risk exposures of the hundreds of millions of Africans who participate in the informal economy not by preference but by the economic circumstances into which they were born. The opportunity is real. So is the accountability gap when that opportunity is marketed more effectively than it is delivered.