Strings Attached: Financial Education is Needed to Judge Pandemic Assistance

Small and micro business operators are particularly vulnerable to fraudulent offers and often need financial education. Photo: ADB
Small and micro business operators are particularly vulnerable to fraudulent offers and often need financial education. Photo: ADB

By Arup Kumar Chatterjee

Households and small businesses are being offered a dizzying array of financial assistance packages to survive COVID-19, but many lack the financial skills to judge if they are right for them. 

COVID-19 has created an overwhelming sense of uncertainty about health, jobs, and finances. Sustaining livelihoods and servicing financial commitments are principal concerns after the sudden loss of income in the aftermath of disruptions in agriculture, industrial and services sectors. Economic pressure arising from sickness, disrupted schooling and unemployment due to layoffs, furloughs, and job losses are forcing people to adjust their spending, defer payment of rentals and loan installments, and seek new loans or even financial assistance.

Governments and central banks have unleashed several stimulus measures to keep businesses afloat, protect jobs, and cushion economies, though many of them encourage more lending rather than bail out the already indebted borrowers.

Financially stressed households and small businesses are making critical financial decisions, often without adequately weighing the pros and cons based on financial knowledge of their options. Due to a lack of awareness and low financial literacy levels, many are likely to regret their decisions once the pandemic subsides. Many will face increased unsecured household debt.

The responsibility for prudent financial decisions is increasingly being transferred from government to individuals. Some of the financial choices facing families and trades during the pandemic involve programs such as:

  • Emergency cash transfers by governments offer a rapid and cost-effective means to recover and rebuild after the crisis. It is a one-time benefit for a specific period. The decision to divide the money received between immediate and long-term needs lies with the recipients based on their individual circumstances.
  • Government guarantee-backed schemes include business loans, overdrafts, and additional credit for eligible individuals and firms. Since these are not grants, even with backstop, banks remain cautious and are reluctant to take on additional risks. Financial knowledge can help businesses understand the eligibility conditions
  • Deferred interest options are not financially prudent, even though postponement does not affect the credit standing of individuals and enterprises who enjoyed good standing before COVID-19. If the balance remains unpaid, either partially or fully, at the end of the period, interest is chargeable on the entire original balance after backdating. With mortgages, there is negative amortization, with the loan's principal balance increasing because of deferred interest. As a result, borrowers will either be paying more in the long run or carrying the risk of increased monthly installments once payments resume.
  • Deferred repayment on loans and lines of business credit needs careful examination. In the case with the former, interest continues to accrue with the deferred payment amount added to the end of the loan. For credit lines, interest continues to accrue and is added to the principal balance when the deferral period ends. Extended payoff periods will increase costs to the consumer. And even with no adverse credit reporting, some lenders may view a deferred account as risky (though it might still be better than a late payment).
  • Extensions to trade finance and working capital loans help manage cash and liquidity by enabling stock to be held for longer to customers with a sound track record. Financial education can help companies understand the terms of their credit facilities, their ability to access capital, avoid being in default, and address financial covenants’ related issues. Defaults in payment of principal and interest under the loan or under any specified material agreements can deny a company access to a credit facility due to the acceleration of outstanding debt. 
  • Withdrawal of a specific portion of the pension and provident funds recognizes that accessing some of the savings today may outweigh the benefits of maintaining them until retirement. However, accessing retirement savings should happen under extenuating circumstances, and people should only withdraw what they need. Financial awareness can explain why retirement savings need to grow over the long term. By taking out more than what is necessary now, they might miss an opportunity for future growth, thus undermining their post-retirement incomes.
  • Deferring insurance premium payments and premium loans isn't without consequence. Not all insurance policies will be eligible for this insurance premium deferment. The policyholder will continue to be covered under the insurance policy during this period and still be able to make claims should the need arise. However, the outstanding premiums need to be paid in full before the deferment period ends to prevent policy and coverage lapse.
The responsibility for prudent financial decisions is increasingly being transferred from the government to individuals.

Governments and financial institutions are also prioritizing digital channels and platforms as they grapple with the logistical challenges of delivering financial services to consumers and businesses through digital devices. Online apps are handling a growing volume of government-to-person (G2P) payments, money transfers, mobile payments, remittances, insurance, and investments safely and securely.

E-commerce and social media platforms are slowly being integrated into the life of everyday consumers and small businesses for business-to-business (B2B) and business-to-consumer (B2C) commerce. In some cases, this is excluding vulnerable populations, such as those without access to technology, women, the elderly, the disabled, and people in remote areas.

Digital financial literacy, along with consumer protection, should accompany the “digital-first” push. This should include helping them avoid excessive borrowing, miss-selling, and financial abuse related to pandemic fears. Discrimination, unauthorized use of data, and fraud, such as phishing and hacking should also be avoided.

To address these concerns, financial education needs to include concepts like credit rating, debt accumulation, mortgage borrowing, retirement savings, risk diversification, data security, financial planning, and wealth accumulation for crisis-proofing of a person’s financial future.

Governments and financial institutions should prioritize financial education for young people, women, and the less educated as they offer financial assistance and digital solutions to consumers. Financial literacy should become a graduation requirement for high school in the times ahead.