Lending to and borrowing from family or friends can either be easy, or terribly complicated. On one hand, when lending to those in your own social network, you often know your customer better than any financial institution knows them. On the other hand, once you do decide to give friends or family a loan, the decision isn’t just made on your view of their credit worthiness, it may also be based on subjective factors - for example, a sense of obligation or a need to avoid conflict. Following up for repayments may be even more precarious, as memories of lending agreements differ, interest rates are not taken seriously, or personal history colors the transaction - ‘remember when I helped you with your house move?’
As a result of these factors, people may become more hesitant to lend, which is particularly unfortunate for the underbanked. For them, family and friends could represent a promising source of reasonably priced finance, as compared with financial institutions which either won’t lend or lend at exorbitant rates with delayed processes to make up for the asymmetry of information.
Technology is changing this equation. With the advent of smartphones, combined with a rapid increase in engagement with online social networks, new digital platforms are emerging that make it easier to lend and save within a broader social network. These models rely on a person-to-person approach and utilize innovative new forms of information (including your social networks) to enable lending decisions.
A recent study by CGAP identified three Person to Person (P2P) business models that could be applicable to underbanked populations in developing countries and help them move up the financial ladder:
- Digitizing social credit
- Group savings
- For-profit P2P credit marketplaces
Photo Credit: IMTFI/Flickr
Digitizing social credit
Online platforms such as Lendfriend and Lending Karma help mitigate the social complications of credit transactions with friends and family. Specifically, they digitize them and allow you to make them legally binding. The interest rate and repayment schedule is entered online by the borrower and proposed to a lender, and parties can choose to add collateral. Then, a digital promissory note is signed. Repayments are made as per the decided schedule, often through Paypal.
Although most of these deployments operate in the USA, there is potential for these services in developing countries where informal credit transactions with friends and family are large in volume.
Rotating Savings and Credit Associations (ROSCAs) enable members to meet their own financial goals through a pot of savings received by each member on a rotating basis. Platforms such as eMoneyPool in the USA have digitized this well-known and traditionally informal model to add security and convenience, as well as broaden members’ reach beyond existing social networks. Testament to the potential of the business model, eMoneyPool has ensured a 99% repayment rate for over $760,000 worth of funds transacted since late 2012. Digitization allows transparent accounting, and creates additional pressure through convenient P2P electronic communication facilities and automated reminders for timely payments. It enables payments online or through mobile money, eliminates the need for proximity of group members and allows you to expand your ROSCA beyond your direct networks (as Puddle does, in the USA). Chama Pesa in Kenya is providing a similar service using cell phones and M-PESA.
For-profit P2P credit marketplaces
When borrowing from and lending to individuals in your social network is too complicated, borrowing and lending from the broader market may be a better option. For-profit P2P credit platforms are enabling people to do just that. These open market P2P credit platforms are growing fast. Since 2010-11, they have emerged across Latin America and Asia to try and replicate the success of the Lending Clubs and Zopas of the developed world. They facilitate affordable, unsecured, small-size loans between individuals, and sometimes between individuals and financial institutions. By eliminating banks from the transaction, borrowers are able to access loans for which they would otherwise be ineligible, or charged prohibitively high interest rates. On some platforms, interest rates are decided through lenders bidding for borrowers (i-lend and Faircent in India, Afluenta in Latin America), whereas others have prescribed interest rates based on borrower risk profiles (e.g. Kubo Financiero in Mexico).
Borrowers using for-profit P2P credit platforms are often repeat borrowers, developing a credit history over time. This allows them to access increasingly cheaper loans on P2P platforms. In addition, platforms like Afluenta are already developing mobile applications and anticipate the bulk of their users to be accessing their platform via mobile in the future.
Volumes are growing: Lending Club, set up in 2007, has processed over $6 billion worth of loans since its founding in 2007. Latin America could offer a unique opportunity for the growth of these platforms as personal loan interest rates can be very high. For example, banks in Chile sometimes charge over 50% interest rate for small personal loans, and in Argentina, the effective financial cost of a personal loan can cross 65% annually when added fees and administrative expenses are accounted for. P2P platforms like Afluenta may offer refreshing competition in this sector by charging closer to 35-40% APR on small personal loans.
Some players are still refining risk algorithms to figure out how to lend intelligently on these platforms. These businesses are developing credit scoring techniques by supplementing credit bureau and other personal data with information from online footprints such as social media use, credit card activity and online browsing history. Even though in these cases customers are not borrowing from friends, how they behave within your social networks, for example, is forming part of the lending decision.
In some countries, regulators may be skeptical of their legality and try to constrain their operation, such as in Chile. Greater penetration of these models into developing country markets remain unproven, but the building blocks of online social networking, electronic payments as well as smartphone and mobile data proliferation point to significant potential.
The three categories of P2P business models described above may offer powerful new benefits to poor unbanked populations, as long as potential risks such as data privacy and consent considerations are also identified and appropriately addressed. And exciting as these early trends are, there could be an even larger inclusion play on the horizon: massive social networking companies such as Facebook, Weibo and Twitter are experimenting with payments. If this came to pass, a financial service provider would conceivably exist that knows who your friends are, your day-to-day movements, details of previous electronic transactions, and who you have lent to or loaned from. This information is richer than what most traditional banks have when opening an account. Today’s P2P platforms can feasibly collect all this information described above. That is a compelling set of digital data on which to form a meaningful banking relationship at a fraction of the cost of alternative models today.
Understanding the needs of the unbanked definately leads to models that address financial needs in a dignified manner. Digitized social credit not only allows members to get guaranters from people they have known overtime and therefore reduce default but also enables users to broaden their circle of guaranters. A model I have innovated dubbed M-ASCA (Mobile accumulating Savings and Credit Association) in Kenya allows members to save little by little and in any denomination acceptable through the m-pesa system even Ksh 50 anytime. They then accumulate the amount and borrow three times their savings after a waiting period of one month. Members can save for a longer period without borrowing depending on their needs. Since its a members association anyone anywhere in Kenya can join so that if a member wants to borrow, they choose guaranters from people they have introduced to the association by entering their telephone numbers under the apply loan module. Guarantors then get the request and log in to the M-ASCA mobile platform and under a guarantee loan module choose the requested loan and either accept or decline. Borrowers have to speak to possible guaranters before inserting their numbers to be guaranteed to avoid delayed disbursements requiring additional guaranters. Once all guaranters accept the requests, the loans are disbursed to the borrowers temporary accounts where they can send to m-pesa or to a bank of choice whose details are already confirgured in the system. Details of my model are available at www.m-asca.com
The M-ASCA model addresses Key things that can break the barrier of financial inclusion to the unbanked
1. Models that provide credit to lesser off segments tend to require their physical presence in order to mobilize funds, with the mobile phone memebrs do not have to leave their places of work to attend any meeting and do not have to have specific amounts of money on specific dates. The platform allows them to save or repay a loan when they get the funds.
2. It recognizes that the target population may not have regular income but they get some money, and whenever they get it they can save or repay their loans even in bits provided that all amounts are submitted within the month.
4. M-ASCA also recognizes that the targeted population consists of people who rely on man hours to get their income, so relying on the m-pesa network of outlets in Kenya which open long after official working hours and are practically in every market place in Kenya, members are given an early and convenient opportunigy to load their m-pesa wallets from an outlet near them and to do their savings via the M-ASCA savings module considering that access and convenience are key to savings to avoid use of funds for other competing needs.
5. Since its a members association, interest on loans is 1% per month. My concern was that existing models for the lesser off segments charge interests that are even higher than banks, making me wonder then why lend money to a person when the activity they engage in cannot repay the loan plus the interest. The only instituttions in Kenya that charge a similar interest are SACCOS but these are mostly checkoff based, for people with regular income and have to remit specified amounts per month and also affiliated to employers meaning that they are out of reach for the unbanked. M-ASCA is an indiscriminate savings and credit association.
6. In addition over 30 Million Kenyans have mobile phones meaning that a great majority of the adult population targeted are elligible, M-ASCA is a platform that can really provide the much needed support as it targets youths, women, smallscale business people, casual laborors or any person who many not hold any collateral but is in need of capital for investment, business startups, old age savings or any other viable need.
7. The model deliberately avoids giving conditionalities of group numbers, existing models have caused anguish to their members as group members borrow and since its mandatory for group members to guarantee each other, they dissappear only for the group to offset such loans with group savings. Since M-ASCA memebrship is voluntery and open to everyone anywhere in the country, members will introduce people they have known overtime and their relationship does not depend on M-ASCA, the relationship has been and will be with or without M-ASCA. Such strong ties reduce risks of default unlike a situation where the only reason for being together is requirements of a certain MFI. Significant others who may not want to lend money to their friends or relatives may not mind being guaranters as opposed to giving cash without any contract considering that all reminders are copied to guaranters and one can monitor the performance of someone they have guaranteed.
8. Unlike in the SACCO model where savings is monthly and most of the times the waiting period is 6 months, in M-ASCA members can save as many times as they want in a day depending on their source of income, futhermore there is no need to lock money for long for people who need to turn around it around.
While the M-ASCA model is a step in the right direction challenges of execution persist; among key ones are:
1. There is really no consideration in Kenya for those who want to use for example m-pesa to purely save as they are lamped together with people who pay bills and access tariffs apply. A very painful situation as the people using the system save as little as Ksh 50 or Ksh 100 which may cost Ksh 22 per transaction. Assistance in prevailing upon mobile network providers to provide a free savings tariff and then charge for withdrawals will go along way in encouraging savings and a big step towards financial inclusion.
2. The system requires a lot of resources to scale, a challenge that we have faced from system development to implementation as the system targets every part of the country, even sharing with others in developing countries who may find it useful, personal resources may not achieve the impact that is envisioned and this may take a long time; funding or partnerships would really be welcome.
Very interesting. While I was aware of these models globally, India is clearly a surprise. Glad to know about them. I'll be happy to understand a little bit more on how risk mitigation and contractual obligation are managed in such models.
Very interesting read. Rang De in India is a very interesting organization enabling microcredit on the P2P model. They have interest rates as low as 10% per annum, which might be lower than the available bank rates to the low income workers, and are the cheapest source of credit to most of their partner organizations. Very interesting model - definitely worth understanding.