A Composite Index for Financial Inclusion

Financial inclusion, as well as income, health or housing, is a basic ingredient of human well-being. There is also evidence supporting that use of formal financial services have a positive effect on economic growth and development. However, the attempts to measure this concept are scarce and incomplete. Most of studies try to approach financial inclusion by single indicators individually (i.e. bank penetration, number of bank branches, etc.). There are also two multidimensional indexes that contribute to this literature (Sarma, 2008; Chakravarty and Pal, 2010). However, these papers either allocate dimensions weights exogenously or treat them as equally important through an axiomatic approach. This paper proposes an alternative measure of the extent of financial inclusion at the country level for eighty two developed and less developed countries, from a multidimensional perspective. We postulate that the degree of financial inclusion is determined by four dimensions and each dimension is, at the same time, determined by several indicators. Weights assigned to the dimensions are determined endogenously. Our composite index offers a comprehensive measure of the degree of financial inclusion, easy to understand and compute. As a preview of the results, countries like Korean Republic, Spain and Belgium have the greatest levels of financial inclusion while from the group of less developed countries Thailand, Brazil and South Africa are in the top of this group. This index is useful to investigate the determinants of financial inclusion as well as its contribution for economic growth. Also, the information on the different dimensions is suitable for economic policy design to foster financial inclusion.