A V Rajwade: Old wine in new bottles

In terms of concept, peer-to-peer lending is not much different from a chit fund

The business media has been full of reports and comments on peer-to-peer lending (P2P) in recent weeks, particularly after the publication of a discussion paper by the Reserve Bank of India (RBI) last month. In a way, there is nothing new about the concept: in principle, the bhishis () of housewives in most cooperative housing societies in Mumbai are a form of P2P; so are the age-old "chit funds". At a different level, public issues of corporate bonds are also a form of lending by the individual saver to the issuer of the bond - and so are money market and bond funds. The basic feature of all these arrangements is that the saver directly takes the credit risk on the borrower, without the intermediation of any bank or finance company. The securitisation of loans by banks also means the same thing: to be sure, there is, in theory, an intermediary, namely a nominally capitalised entity (special purpose vehicle or SPV) that buys bank debts and issues securities backed by these assets for sale to investors.

The main distinguishing feature of P2P is that the loan amounts are relatively small, say, up to Rs 1 lakh (but so is the case in bhishis and chit funds), and the transaction is arranged on an electronic platform managed by the promoter, who gets a fee for the service. The numbers I have read for the interest and the fee are of the order of 20 per cent per annum and five per cent of the loan amount, respectively. Clearly, not many businesses would be able to afford P2P - unless their business margins are high enough, or they are borrowing at an even higher rate. Or would the loans be for consumption expenses like marriages? They may also overlap with microfinance institutions (MFI).

MFIs remind me of how we seem to be prone to accept a new model of financial intermediation without weighing the risks: remember the craze for leasing companies at one time with every Rajaram, Sitaram and Tukaram promoting a leasing company? Few survive today, and my memory is that even the most successful one (based in Chennai) is in difficulties. There has also been a shake-out in the MFI sector.

But coming back to P2P, one thought occurs to me: Regulation should require the platforms to hold "x" per cent of each loan on their own books - this would hopefully make for more responsible scrutiny of the borrower and credit risk. (Or should only established banks/non-banking financial companies manage them?) The RBI discussion paper estimates the global size of the P2P sector at £5 billion. However, this seems to be a significant underestimate. China alone has outstanding P2P loans of the order of $80 billion equivalent, on 4,000 platforms. (After the failure of one of the largest platforms, the country's central bank is now trying to bring in some regulation.) And, one student loan P2P platform in the US (SoFi, short for Social Finance) was recently the first US P2P to fund $5 billion worth of loans and is fast on the way to $10 billion.

At the other end, brick-and-mortar banks from Goldman Sachs to the Development Bank of Singapore are opening e-accounts - with no signatures, and cash withdrawals only from ATMs. Many banks are computerising the processing of consumer and mortgage loan applications; Citibank recently estimated that with full computerisation of data analysis, banks in the US and Europe may be able to reduce up to five million jobs over the next 10 years. In India, the National Stock Exchange's bill discounting platform may also do well, given the size of debtors and creditors on the books of businesses. (Remember where Uday Kotak started?)

In another traditional banking service, the prospects of e-wallets and mobile-based payment services look more attractive. The key, as in the case of the electronic currency, bitcoin, is how many businesses will feel comfortable getting paid through such mechanisms. The other side is the recent case of the fraudulent transactions in the USD account of the Bangladesh central bank with the US Federal Reserve a few weeks ago using the SWIFT (Society for Worldwide Interbank Financial Telecommunication) network. SWIFT handles trillions of dollars of transactions every day and surely has the most sophisticated and error- and fraud-free systems in the world. What the Bangladesh bank case proves once again is that no system is hack-proof. The bank has so far lost $80 million - and SWIFT has recently admitted to similar other, unpublicised incidents as well.

The author is chairman, A V Rajwade & Co Pvt Ltd; avrajwade@gmail.com