In reading this piece by Joseph Stiglitz at CNN, he speaks of the causes of the crisis in banking. In particular there is this little gem;
CNN: How to prevent the next Wall Street crisis
The new “innovations” simply hid the extent of systemic leverage and made the risks less transparent; it is these innovations that have made this collapse so much more dramatic than earlier financial crises. But one needs to push further: Why did the Fed fail?
He is referring to the distance between the ultimate borrower (sub prime mortgage in hometown America) and the ultimate lender (perhaps a Bank in Switzerland or UK). More on that here.
On the other hand we have Ron attacking the premise of Social Lending on various fronts, and in this case possibly because it is too transparent.
Marketingroi | Discrimination In P2P Lending?
They also discovered some discrimination against … [post goes on to list the people the report considers are being discriminated against, including race, age, weight]
However, when the entire report that is quoted is reviewed we find quotes such as “Yet the data tell a very different story that suggests that this peer-to-peer lending market actually treats the races more equally than would be expected in a market with accurate statistical discrimination.” The author of the report is a behavioural economist whose scope is to “identify how consumers use information to make decisions”.
On the one hand we have a credit crisis caused by lack of transparency. We have a new industry that bases its model on transparency. Different social lenders use different levels of sophistication to manage transparency and that sophistication is something we spend a lot of time thinking about. There must be adequate information to make decisions yet rock solid protection from anything illegal, including discrimination, or identity theft. These considerations are paramount in our assessment of how we build out our Online Lending Service here in Canada.
Clearly the law must be followed, and Social Lending must deal with anything that is illegal. The power of transparency as one step [of many] in elimination of future problems is not lost though, and as the industry evolves we will see a natural tension work to find the right balance.
12 responses so far ↓
Alan // September 17, 2008 at 10:32 pm
I love all the aftermath commentary. The problem was recognized at least as early as 2002. It was the subject of many news articles in, amongst others, the Washington Post, The LA Times and the New York Times. However, as is always the case with speculative bubbles, as long as prices are rising and banks are throwing money at people, nobody who can do anything (Greenspan for example) sees the real math or can go against his political master. (Independent you cry! But no, Greenspan, at Bush’s urging kept rates artificially low to stimulate housing… unfortunately that stimulated the making of junk mortgages of $500K to people unable to get a regular $250K mortgage!).
As to the transparency argument for social lending, I’m not 100% convinced. It is wonderful for the likes of CommunityLend as the lenders (me for example) will be providing 100% unsecured cash to pool up for the borrowers. No leverage at all. On the other hand, however, I will be firewalled away from knowing who the borrowers of my tranches really are. Yes, I’ll get their masked credit ‘rating’ in some form or fashion, but I won’t really know who owes ‘me’ money. Why the quotation marks? Because the borrower will owe the money to CL, not to me. This is not transparent so you can expect there to be “natural tension” indeed!
Colin // September 18, 2008 at 5:06 am
Good discussion Alan. One point of clarification, without getting too far ahead of our launch… the borrower will in fact owe money to the lender, in this example, you. CL’s job is to provide the Service that brings you together. We will also take care of payment management, and collection management should that be required. In terms of what you get, you’ll see the credit rating, and other statistical data points that will provide a rounded view of the borrowers Loan Request. There is also the knowledge that the identity has been verified … more on these data points to come .. soon. (I know … not soon enough)
Ron Shevlin // September 18, 2008 at 1:07 pm
Oh Colin, please: ” peer-to-peer lending market actually treats the races more equally than would be expected in a market with accurate statistical discrimination”
“More equally” is like admitting you beat your wife, but not as badly as the guy next door.
You’re free, of course, to interpret my comments as “attacking the premise of social lending”, but I didn’t really think that’s what I was doing.
I was attacking what I believe to be the false claim that p2p lending is some kind of “social good”. The data from the Prosper study suggests that it’s mostly well-to-do people lending to other well-to-do people. And there’s nothing wrong with that. At all.
But there’s an often explicit, and sometimes implicit, claim that p2p lending is benefiting people who can’t get loans from the “big bad banks.” The Prosper study refutes those claims.
Colin // September 18, 2008 at 1:22 pm
@Ron .. Aha … if that last comment is the point then we are in agreement. There is (yet) no holy grail for dealing with people who have bad credit. Bad credit by definition means that the borrower does not pay his loans back, and thats a hard record to deal with. On the other hand those with no credit record who are new to borrowing are a different story, and there are creative ways to help them.
P2P lending, at least the Canadian version that we are promoting is designed for good quality borrowers seeking a better alternative.
Rob // September 18, 2008 at 6:52 pm
The important “social good” I see coming from P2P lending is that it will create choice in a market that is desperately in need of some innovation. To me, whether social lending in Canada is a good or bad idea, the market should ultimately decide. Unfortunately, right now, the government is deciding in the favor of the banks by suppressing the idea altogether… But don’t worry, all we need is more regulation. Let’s assign the government more powers, it’s not like they’re in bed with the large corporations or anything. Capitalism has taken on such a negative connotation these days… the real problem is large corporations teaming up with government to actually prevent competition.
As a potential lender, I can tell you that my loans will not be any form of social service or handout; people do not have the *right* to borrow my money; however, should an individual have a history of responsible borrowing, it is very likely that there is some interest rate that will justify the risk of lending to them. We form a contract. I really, truly fail to see how years worth of regulatory discussion is needed to make this simple premise a reality.
Rob // September 18, 2008 at 6:55 pm
Opps. Your site removed my mock-html sarcasm tags in the first paragraph, around:
“But don’t worry, all we need is more regulation. Let’s assign the government more powers, it’s not like they’re in bed with the large corporations or anything.”
Ron Shevlin // September 18, 2008 at 8:06 pm
@Rob It would appear to me that if Prosper is any indication, then p2p lending will end up increasing choices to the select segment of borrowers who already have the most choices.
I guess you can still consider that a “social good” — just not a very widespread social good.
Rob // September 18, 2008 at 8:42 pm
@Ron: Your article was interesting, but I am not fully convinced that African American’s receiving less funding on their loans is P2P lending’s fault. From the article (and assuming that the underlying study is accurate) I took away that African American loans received less funding, but that they also had a higher default rate. Could this be a deeper social problem that has nothing to do with P2P lending, per se? How would you modify the idea of social lending to compensate for this?
Ron Shevlin // September 18, 2008 at 9:46 pm
@Rob I’m really not trying to insinuate that the fact that African Americans receive less funding is the fault of p2p lending. I think you hit the nail on the head when you raise the point about this possibly being a deeper social problem. There are some comments I’d like to make about this, but I won’t, because of the possibility that someone will twist my comments and accuse me of being politically incorrect, or even worse, racist.
I want to reiterate that my criticism of Prosper is strictly, and narrowly, concerned with the marketing-related comments the firm makes (ie., contributing to the social good) — and not the lending practices of the people who utilize the site.
Colin // September 19, 2008 at 3:04 am
I have to back Ron on that last point. When social lending/ p2p lending began there was an altruistic flavour to the early commentary in the 2005/6 time frame that was pure dream. I believe social lending will bring benefits, but the early association with micro lending in India and Bangladesh was fiction that nonetheless took the focus off track. The benefits will become evident as true social lending develops within the scope of regulation. The key will be those that can push the envelope within the regulatory framework.
Dan Dickinson // September 19, 2008 at 4:22 pm
Social lending (or any other system) *could* be a social good — or, more accurately, prevent a social evil — if it removed from a decision any factor which tends to be discriminated against. If the lender can’t see anything about the borrower (name, race, age, location, gender, religion, height, color preferences, mac vs. PC, etc.) except their financial data, and the borrower is equally in the dark, then the decision is made purely on numbers. You then remove racism, ageism, xenophobia, operating system allegiance and all other ugliness from the system. Just like a double-blind experiment.
That won’t happen, of course. But some idealistic chap probably thought it could when P2P Lending first fired up.
Nicole // September 19, 2008 at 5:50 pm
Clarity and transparency breed more informed and thereby more loyal customers. This, in turn, drives repayment performance and ultimately defaults. Take a look at the iAdvance product from MetaBank (myiadvance.com). The product’s Simple, Sensible Credit tagline speaks to this theme. No complicated fee structures or sin fees that breed skepticism in borrowers.
The product was built around concepts Meta details in this article, appearing in Paybefore.com:
http://metacash.com/Main.aspx?MenuName=Home.Press_Room.6_16_2008
To learn more: Listen to this recorded webinar conducted by the CFSI where Meta management expounds on “Simple, Sensible Credit.”
http://www.cfsinnovation.com/webinar-detail.php?article_id=330409