Breaking the bank: two new credit types are disrupting a 3,000-year old industry

An Ifo Institute study shows fintech and big tech credit - dubbed “digital lending” - are rapidly overtaking conventional credit markets.

During Covid, governments across the world boosted contactless payments, while e-commerce, telemedicine, e-learning and remote work increased online payments, and led to unprecedented rise in digital lending to households and small businesses.

Fintech and big tech credit make an impact in global credit markets

Yet, a new study from the Ifo Institute at the University of Munich has shown that changes in global credit markets began well before the pandemic. The study found that two new types of credit, fintech and big tech companies, showed significant growth in global credit markets before Covid appeared. In 2019, US$223 billion of fintech credit was recorded, while big tech credit reached US$572 billion.

Fintech and big tech credit are sizeable in some economies.
Source: CESifo Forum

One reason for these online credit platforms to become popular “alternative financing sources” is that the Millennials and Gen Zers who grew up with ATMs, credit and debit cards and online fund transfers, have been quick to seize the opportunity for convenience, speed, and transparency these platforms offer. The ease of obtaining commercial loans on online platforms is a welcome change for businesses frustrated by stringent credit regulations and falling loan approvals from banks that are apprehensive of bad credit.

But what are these new credit types, and how are they disrupting the 3,000-year old lending industry?

Fintech credit

Both fintech and big tech, unlike traditional banking, use new digital technologies in their credit approaches. For instance, fintech uses new online platforms in lending which commercial banks do not use. Also, a higher level of fintech credit activity has been observed in larger, wealthier economies where per capita GDP is high, banking services are costly and banking regulations are more relaxed. Thus, fintech credit visibly grew in recent years in China, the U.S. and the U.K. In China, leading fintech platforms include Yiren Digital, also Ant Group, Tencent, and Didi Global. On the other hand, Zopa, U.K.’s oldest market lender transformed into the nation’s first peer-to-peer lending platform, while the Funding Circle has revolutionized lending to small businesses in the U.K. In the U.S., Lending Club is a peer-to-peer lending company and SoFi, a lending platform began as a pilot lending project to Stanford students, while Harmoney is an award-winning online credit platform in Australia and New Zealand.   

Big tech credit

The second type of new credit available to households and small businesses, is through big tech companies whose main business function is digital services, and not financial services. Leading big tech lenders include Alibaba’s Ant Group and Tencent’s WeBank in China, Amazon in the US, UK and other countries, Google in India, M-Pesa and other mobile money operators in Africa, Grab and Go-Jek in Southeast Asia and Mercado Libre and others in Latin America.

With these businesses focused on e-commerce, social media or internet search, they have access to important data on people and companies. So, by analyzing and making use of this data, some big tech firms have grown bigger than some of the world’s largest financial institutions.

Big tech credit is booming in Asia, the United States and Africa
Source: CESifo Forum

Moreover, as data shows, big tech credit is thriving across the globe, with China, Japan, Korea and the U.S. being the largest markets in absolute terms. In Japan, for instance, e-commerce company Rakuten and social media company LINE are outstanding creditors, while, in Korea, the two virtual banks Kakao Bank and KBank have become big lenders since their business started in 2017.

Therefore, it is not surprising that big tech lending, which grew globally by 44% from 2018 to US$ 572 billion in 2019, is projected to expand to US$1 trillion by 2023.

Fintech and big tech credit through demand and supply

Moreover, as with everything in the field of economics, the rise in fintech and big tech credit too can be explained through the concepts of demand and supply. Affluent countries that record higher per capita GDP, show a higher demand for fintech and big tech credit, but demand falls at very high levels of economic development. This is more apparent with fintech than with big tech credit.

Furthermore, when banking services are more expensive, may be due to monopolistic tendencies, individuals and businesses will turn to cheaper credit especially from fintech, but also from big tech firms. This is seen also in underbanked areas where there are fewer banks per capita. Here too, demand for fintech credit is greater than for big tech credit, because fintech lending is a counterpart of traditional bank credit. On the other hand, as big tech credit depends on digital distribution methods rather than on actual branches of the organization, the concept of underbanked areas is irrelevant.  

From a supply perspective, when banking regulations are strict, people and businesses look to more flexible conditions of fintech and big tech credit. But, those same inflexible banking regulations could make it hard for fintech and big tech firms to enter the credit market.

On the other hand, when there is a business-friendly corporate climate, a developed banking system, investor protection and disclosure, and a well-working judicial system, there will be higher volumes of alternative credit because fintech and big tech firms can easily enter credit markets and grow in them.  

Implications for future policy

Although fintech and big tech credit have become globally lucrative, they are yet newcomers in the credit market, and are often left out in official credit data. This is problematic as central banks and regulators who are responsible for monitoring credit markets, need to have a complete picture of how the credit markets function, and should not, like good pilots be “flying blind.”

This requires that ensuring greater availability of credit data becomes a policy priority, and making sure fintech and big tech lenders are included in regulatory reporting.

Authorities need to be alert for trends of individual borrowers exceeding their credit limits and risking the financial stability of the whole economy, as has happened before during periods of surging credit markets. Only an economic downturn will really tell if these are promising new financial alternatives or just a credit bubble.

Moreover, the post-pandemic era, where convenience will be the primary force of growth in fintech and big tech credit, regulators need to continuously monitor these new credit sources, and consequently better regulate them with dedicated rules or frameworks.

As global financial authorities learn from one another, they will discover that ensuring financial stability and market efficiency will sometimes lead to inevitable trade-offs with consumer and data protection.

Rajika Jayatilake

Rajika Jayatilake is a reporter at Breakthrough.

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