Solving Development Challenges in Underdeveloped Countries. An Analysis of Blockchain-Based Applications

Table of contents

Abstract

List of figures

List of abbreviations

I. Poverty and economic disparities in underdeveloped countries

II. Development theories and approaches to poverty reduction
a. Institutional weaknesses and development challenges
b. The role of financial inclusion in economic change
c. Instruments, campaigns and channels to address poverty

III. Overview of the blockchain technology
a. Blockchain design and the underlying mechanisms
b. Key features and their practical relevance
c. Technological limitations and challenges

IV. Blockchain-based applications as potential solutions
a. Applications to overcome institutional weaknesses
b. Applications to improve financial inclusion
c. Applications to empower people

V. Conclusion and discussion
a. Summary
b. Implications for research and practitioners
c. Limitations and future research

Appendix: Impact assessment of potential solutions

Appendix: Relevant projects in developed and underdeveloped countries

List of references

List of figures

Figure 1: Study design

Figure 2: Blockchain design and transaction process

Figure 3: Blockchain-based application as potential solutions

Figure 4: Selected projects

List of abbreviations

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I. Poverty and economic disparities in underdeveloped countries

In its “Poverty and Shared Prosperity Report 2016” the World Bank reported that “poverty remains unacceptably high” with an estimated population of 766 million people living on less than $1.90 a day in 2013 (p.36). Countries located in Sub-Saharan Africa (388.7 million) or South-East Asian (256.2 million) are classified as underdeveloped countries. So far, researchers have concluded that development is limited by high levels of corruption (Olken, 2006), weak institutions and a lack of human rights enforcement (Webb, Kistruck, Ireland and Ketchen, 2010). Additionally, limited access to financial services (T. Beck and Demirguc-Kunt, 2006; Honohan, 2008), high inflation rates (Aisen and Veiga, 2006) and dependencies on foreign capital (Gur, 2015) lead to economic instability. Furthermore, development is inhibited by low levels of social trust (Barham, Boadway, Marchand and Pestieau, 1995; Bjørnskov, 2006), power concentration and imbalances (Acemoglu, Reed and Robinson, 2014) and civil wars and ethnic conflicts (Collier, Hoeffler and Söderbom, 2008).

As a solution, innovation has been identified as a means to support development in developed and developing countries (Chudnovsky, Lopez and Pupato, 2006; Kaplinsky, 2011). In general, new technologies can bring significant changes to the world’s poor and improve their living conditions. In particular, the blockchain has been suggested as a new technological solution to many problems in underdeveloped countries (e.g. Swan, 2015; D. Tapscott and A. Tapscott, 2016). However, the proposed solutions were held to be somewhat nebulous with few specifications regarding concrete applications. Moreover, researchers have focussed on theoretical approaches, neglecting practical examples and outcomes. An overview of possible and existing solutions which specifies relevant mechanisms and implementation hurdles has in consequence remained unconducted.

In attempting to compensate for this insufficiency, this paper first aims to introduce useful blockchain-based applications and link them to development problems. Therefore, I explain the idea behind the application and investigate the impact channel, i.e. illustrating how the application specifically addresses the development problems. Furthermore, I examine the advantages of blockchain-based solutions over conventional approaches, thereby outlining the disruptiveness of the blockchain.

Second, this paper seeks to create an overview of existing projects and suggested applications. Furthermore, I assess their potential by evaluating the impact scope, the implementation feasibility and the likelihood of adoption. This will help to use resources thoughtfully and sustainably with better results.

Third, this paper intends to create awareness of the new opportunities of the blockchain and to motivate governments, international organisations, non-governmental organisations (NGO) and entrepreneurs to leverage them. Therefore, I do not only demonstrate the possible outcomes but moreover incorporate innovation processes. I show how a new technology (blockchain) could be applied to existing solutions in underdeveloped markets and how existing blockchain solutions (from developed countries) could be transferred to new (underdeveloped) markets. Furthermore, I want to encourage scholars to build on these applications and to review them in specific settings.

In order to achieve these goals, this paper first presents several underlying problems in underdeveloped countries. Second, it investigates the blockchain and provides an analysis of its features. Third, it introduces relevant blockchain-based applications and offers an overview of both existing projects and theoretical applications. Fourth, the paper concludes with implications for research and practitioners and by presenting both the limitations of the present research and suggestions for future inquiries.

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II. Development theories and approaches to poverty reduction

Several theories and approaches have been developed to reduce poverty and improve the living conditions of people in underdeveloped countries. Moreover, researchers have tested solution concepts and their practical impacts. The following section divides the relevant literature concerning poverty reduction into three categories. First, I examine the problem of institutional weaknesses and development challenges. Second, I analyse the role of financial inclusion in economic change. Third, I emphasize important instruments, campaigns and channels to address poverty.

a. Institutional weaknesses and development challenges

One major problem of underdeveloped countries, and one reason why development programs often do not deliver the desired outcomes, is weak institutions which fail to shape and control development. Corruption, for instance, is more likely to occur in poor regions where a lack of law enforcement is observed (LaPorta, Lopez-de-Silanes, Shleifer and Vishny, 1999; Mauro, 1995). Not only does corruption hinder economic development it limits the government’s power to establish redistribution programs. Olken (2006) found that the welfare loss caused by corruption can outweigh the benefits of the redistribution programs. He further observed that corruption is centralised, with a small group of people causing a considerable share. Rural areas, where people lack transparency and the possibility of monitoring their agents, are particularly prone to corruption. A suggested solution was advanced by Oto-Peralías, Romero-Ávila and Usabiaga (2013) who analysed the impacts of decentralization. They found that decentralization can not only reduce corruption but also decrease public deficits through disciplinary effects. This effect was stronger in areas with information asymmetries and with ineffective governments (principle-agency problem). As this study was only conducted in countries of the organisation for economic cooperation and development (OECD), an application to underdeveloped countries is critical and can be seen as an area where more research is needed.

Another problem in underdeveloped regions is the low level of social trust. Key determinants of social trust are defined as the reliability of legal institutions and social heterogeneity (Knack and Keefer, 1997). Social trust supports economic growth and thereby improves living conditions for poor people. It can generate growth through two major channels. First, social trust increases education efforts, causing higher education levels. A resultant impact is that investment rates which support economic growth increase (Bjørnskov, 2006; Levine and Renelt, 1992). Second, social trust improves governance as people are more likely to follow social norms, to accept regulation and are less likely to be corrupt (Bjørnskov, 2006; Uslaner, 2002).

Social trust, however, is not the only determinant of education level. In underdeveloped regions, education is a function of financial resources. Poor people often cannot afford to send their children to school because they lack the necessary financial capabilities. Without education, or with only a lower level of it, children are more likely to earn lower salaries in the future. In consequence, once they have children themselves, they are not able to afford a basic education, causing the third generation to also generate only low income. This effect is intensified by the higher fertility rates of uneducated women. More children mean higher living costs and that existing capital must be divided by more children, reducing education levels further. This phenomenon is called the poverty-education trap (Barham et al., 1995). A possible solution would be to offer parents a loan with which they could finance their children’s education. However, in underdeveloped regions people often do not have access to financial services or are not given a loan (Canidio, 2015). Therefore, families cannot escape the poverty-education trap on their own and redistribution programs often are corrupted or captured by local elites.

Ravallion, van de Walle, Dutta and Murgai (2015) have studied possible solutions intended to mitigate power concentrations in rural areas. They conclude that public information alone is not sufficient to break local elites because the rural population started to believe in their leaders. This can be seen as problematic since power concentration limits economic development on both local and national levels (Acemoglu et al., 2014). In African countries with weak institutions, local chiefs have incentives for self-centred ruling and maximize their own wellbeing. Neglecting this, traditional research about social capital and education might have only limited applicability in Africa. Initiatives to promote social capital and education in rural areas are often captured by ruling families and their children which, contrary to their purpose, increases the inequality and power disparities. Inequalities have also been reviewed in terms of investment opportunities. Canidio (2015) found that poor people – contrary to existing research – have investment opportunities but often do not seize them. Moreover, the rate of return is often comparable with those of more significant projects where more capital is needed. However, because the absolute return is low and barely feasible, poor people miss the chance to make simple but profitable investments in, e.g., mosquito nets or fertilizer. This behaviour is called the focusing effect. Canidio also concludes that saving incentives differ between wage levels and therefore inequalities are amplified. Canidio argues that the cycle might be broken if individuals could borrow money to invest in larger scale and more feasible projects.

Moreover, the development state of institutions affects entrepreneurship and the performance of small and medium-sized enterprises (SME). McMullen (2010) observed that institutions can work as barriers to or facilitators of entrepreneurship and Webb et al. (2010) observed that institutions in underdeveloped countries do not function as well as in developed countries. Entrepreneurs often face barriers to borrowing capital which could be broken down by higher developed financial and legal institutions (T. Beck and Demirguc-Kunt, 2006). A deeper investigation of the research on the role of financial intermediaries in general is conducted in the next paragraph.

b. The role of financial inclusion in economic change

The role of financial intermediaries for economic development has also been the object of several studies. Honohan (2008), for example, linked the access to financial intermediaries to poverty. He observed that the main problem for people in underdeveloped countries is not only a shortage in capital resources but also limited access to financial services, specifically bank and savings accounts. Furthermore, he found that countries with higher mobile phone penetration rates and more developed institutions have higher bank account penetration rates. Since access to financial intermediaries as an action against poverty is not yet proven, more research in this area is required. However, the connection between financial services and the effectiveness of redistribution programs has been partially analysed. Ravallion and Chen (2005) inspected the impact of household savings in response to development projects. They recognised that the benefits of development aid are deferred as people save half of the additional income. The primary reasons for the saving behaviour are the inability to assess the long-term success of the projects and limited access to financial services. People save money in order to hedge against future income losses and to overcome future borrowing constraints, both of which could be eliminated by developed financial services.

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