As digital natives grow older and as the P2P lending industry matures and gains credibility, it may gradually erode the conventional lending model.
By Ritesh Jain
Imagine applying for a loan by entering a few pieces of information into an online portal and having your loan approved within hours and disbursed online.
A number of online marketplaces have made this a reality, offering online platforms that match borrowers directly with lenders. I am talking about peer-to-peer (P2P) lending. While still very small globally, it could emerge as another technology-led disruption to the conventional form of lending.
Estimates by ACCA Global pegs the size of the Chinese P2P market at $30-50 billion, making it the biggest P2P market in the world. Below is an interesting take on P2P by Forbes.
Opportunities and risks in P2P lending
In 2011, famed Internet entrepreneur and venture capitalist Marc Andreessen argued that “software is eating the world.” What he meant was that innovation in technology was disrupting businesses - most strikingly, retail and media. P2P lending is a striking example of this phenomenon.
The basic idea is simple: a P2P lender provides an online platform which matches lenders and borrowers and chargers a fee for the service. Unlike a bank, it doesn’t take deposits or hold the loans on its books and doesn’t make money off the spread between the lending and deposit rate.
The sharp fall in interest rates after the 2008 financial crisis created an opening for P2P lenders, whose basic value proposition was cutting the costs of intermediation between lenders and borrowers. This was achieved by using large data sets and clever algorithms to determine the creditworthiness of borrowers using a range of variables like credit scores, financial history and social media usage.
In India, the P2P industry is still small with around 30 companies. However, as digital natives grow older and use more financial products and as the P2P lending industry matures and gains credibility, it may gradually erode the conventional bank lending model. Perhaps, the most promising long-term application of P2P lending here is in enabling financial inclusion.
However there are risks in the P2P model as well, and recently some P2P lending companies have hit a rough patch. The massive P2P lending industry in China experienced serious problems in 2015 with more than a thousand lenders running into difficulties and hundreds of P2P bosses simply running away from their companies.
In April, RBI published a discussion paper with proposals for regulating P2P lenders. It suggested that they should act only as intermediaries between lenders and borrowers and not take on the functions of a bank and accept deposits.
A sensible regulatory regime needs to be created that finds a balance between enabling innovation and protecting stakeholders. If that is done, the long-term future of the P2P lending industry is bright and this new model has a lot of potential to expand access to loans.
Twilight – where to now? – Viktor Shvets of Macquarie
In the early 1960s, Paul Volcker realised that Bretton Woods global monetary system that fixed US dollar to gold and all other currencies to US dollar was starting to disintegrate. The primary reason for the disintegration was the US current account and fiscal surpluses, which were turning in fiscal deficits by that time.
By late 1970s, a new system was developed which recycled deficits instead of surpluses. Through deregulation of products, labour and capital markets, it encouraged massive proliferation of leverage and financialisation, leading to rising US consumption that in turn supported the expansion of Japanese, German and Chinese economies. This kept interest rates and prices low, which allowed consumers to maintain consumption, despite declining productivity through higher asset prices and leveraging. This lasted three decades and finally collapsed in 2008.
Now, a new system is required, ‘nationalisation of credit’? It is unlikely that the current heavily suppressed private sector cycles will ever recover.
We are replacing the private sector and its signals (such as spreads, yield curves, leading indicators) with public sector-inspired cycles. However, the public sector is driven not by market signals but by political and societal decisions and, hence, investors can no longer use signals, styles or strategies that worked in earlier decades. The public sector is gradually and reluctantly moving towards even greater nationalisation of credit, de-globalisation and closure of borders.
It might involve the merger of fiscal, income support and monetary policy. It would be good for equities in the short term until investors realise that ultimate outcome would be hyperinflation, stagflation or deflation.
Pension duration dilemma - Why pension funds are driving the biggest bond bubble in history
Public and private pension funds around the globe are massively underfunded, yet they continue to pay out current claims in full despite insufficient funding to cover future liabilities...also referred to as a Ponzi scheme. The pension problem is often attributed to low returns on assets.
However, the impact of declining interest rates on the asset side of a pension’s net funded status is dwarfed by the much more devastating impact of declining discount rates used to value future benefit obligations.
The problem is one of duration. Duration is a measure of change in valuation due to change in the yield. Pension liabilities are virtually perpetual cash flow stream (very high duration), so interest rate swings have large impact on the present value of the stream.
As the interest rate declines, liabilities which have much higher duration increases in value at a much higher rate than assets.
In a declining interest rate scenario, pension funds can only move further out the yield curve (buying higher maturity bonds) in an attempt to match your asset duration with that of your liabilities. As billions of dollars are ploughed into longer-dated securities the yields of those securities are driven even lower.
The problem of course is that pensions will never be able to match the duration of a perpetual obligation stream. Rational solutions like cutting benefits are not palatable to employees or the elected officials that require their votes. The problem will continue to be ignored until it boils over…
Last week, I had written about how technology is at work to reverse the globalisation process. This week I came across this opinion piece from Stephen Roach, who argues that while seemingly elegant in theory, globalisation suffers in practice. That is the lesson of Brexit and of the rise of Donald Trump in the United States. Those who worship at the altar of free trade – including me – must come to grips with this glaring disconnect.
Take, for example, the objection by voters to several of the key premises of regional integration. In the US, Trump’s rise and the political traction gained by Senator Bernie Sanders’ primary campaign reflect many of the same sentiments that led to Brexit.
In short, globalisation has lost its political support – unsurprising in a world that bears little resemblance to the one two centuries ago. Recent trends in global trade are also flashing warning signs with slowdown in global trade growth. In contrast to Globalisation 1.0, which was largely confined to the cross-border exchange of tangible (manufactured) goods, the scope of Globalisation 2.0 is far broader, including growing trade in many so-called intangibles – once non-tradable services.
The sharpest contrast between the two waves of globalisation is in the speed of technology absorption and disruption. It took only five years for 50 million US households to begin surfing the internet, whereas it took 38 years for a similar number to gain access to radios
Sadly, the economics profession has failed to grasp the inherent problems with globalisation. The breadth and speed of Globalisation 2.0 demand new approaches to tackle this disruption. As history cautions, the alternative – whether it is Brexit or America’s new isolationism – is an accident waiting to happen. It is up to those of us who defend free trade and globalisation to prevent that, by offering concrete solutions that address the very real problems that now affect so many workers.
As countries become richer, they tend to move away from cash on the grounds of security, convenience and cost. Consumers may think that cash is free, but for banks and retailers it is not; it needs to be counted, bundled, transported, cleaned, replaced, checked for forgery, stored and guarded. Around 0.5-1 per cent of GDP a year is spent on managing cash. But the move away from cash is not a homogeneous trend in Europe. While Swedes use cash for only 5-7 per cent of their transactions, the Italians and Germans use cash for more than three-quarters of transactions and “cash only” signs are not that uncommon in these countries.
In the Scandinavian countries, banks were early promoters of electronic payments and made it easier (and cheaper) for customers to use cards. In thinly populated Sweden and Norway, maintaining a large branch and ATM network is costly. Yet in Germany and much of the south and east, banks have been less proactive. German banks have been much slower to promote electronic and card payments.
As per the owner of a Dutch chain of bakeries, the decision to become cashless was motivated by security and hygiene. Bakeries are soft targets for robberies. For a few hundred euro you get a knife in you. Customers also didn’t like staff touching their croissants after handling coins. Some clients angrily threw their coins across the counter when bakers stopped accepting them, but over 90 per cent didn’t care.
Culture plays a role, too. Digitally sophisticated Scandinavians may be comfortable buying groceries on their smartphones but a deep-rooted aversion to being tracked – a scar left by the Stasi – lies behind German distrust. When the German finance ministry recently proposed capping cash payments at €5,000, as in some other countries, Bild, a daily newspaper, organised a reader protest. Italians were equally enraged when a cap on cash payments over €1,000 was introduced in 2011. Matteo Renzi, the prime minister, last year loosened it to €3,000.
Of course there are downsides to moving away from cash. Installing card machines can be costly. The poor, many of whom lack bank accounts, would need to be included. Concerns about losing anonymity are legitimate. And cash has always been the obvious contingency in case systems break down.
But the advantages of cashless commerce grow ever more apparent. Back in Stockholm, at a hotel, two Americans bicker over who will fetch “local money” so they can get a taxi. If only they knew that cabbies here, prefer cards and only 7 per cent of Taxi Stockholm’s payments are made in cash.
(Ritesh Jain is the CIO of Tata Asset Management. Views expressed in this weekly column are personal in nature and do not represent those of Tata AMC or ETMarkets.com. It should not be construed as an investment advice. Any action taken by the reader or recipient on the basis of the information contained herein is reader's/recipient's responsibility alone.)
