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Digital Lending: The missing piece of puzzle

The recent RBI notification, seems to be nudging Digital Lenders to be more transparent. The circular notes unfair trade practices like ‘ exorbitant interest rates, non-transparent methods to calculate interest, harsh recovery measures, unauthorised use of personal data and bad behavior’ and reiterates that the onus lies on the Banks and NBFC while giving guidelines on ensuring transparency in transaction, including informing the name of the lender.

The circular is rather tersely worded with a warning at the end ‘ Any violation in this regard by banks and NBFCs (including NBFCs registered to operate on ‘digital-only’ or on digital and brick-mortar channels of delivery of credit) will be viewed seriously.

While the reasons are not provided, it is likely that increasing number of complaints that may have prompted RBI to bring this guidance.

Industry reports seem to suggest growing importance of digital lending. With the pandemic impact likely to linger over longer period of time, digital lending channels will increasingly become central to credit delivery and hence the need to ensure fair practices are well articulated

The Missing piece

But a pertinent question to ask may be ‘Who are these digital lenders that RBI wants to regulate?’ or more fundamentally ‘What is Digital Lending?’.

 There still remain many shades of grey and many unanswered questions. Consider these:

Is digital lending only about soliciting the customer through a web platform?

Will a company still be a ‘digital lender’ if it is just originating loans for other lenders?

Or is risk sharing or co-lending be necessary to be classified as a ‘Digital Lender’? 

Or is it the use of multi-variate algorithms to assess loans?

Will it still be ‘digital’ if phone marketing is used or if door-step services for physical documents are provided?

Will a legacy bank sourcing loans through internet banking be a digital lender?

What about collections- can it be digitised fully?

Or more simplistically, are these just ‘start-ups’, clubbed together as ‘Digital Lenders’? (We even have an association called DLAI!)

With a varying set of business models, some of which are still evolving, the only common thread seems to be ‘soliciting business through a web portal’, which, many ‘traditional’ banks have also been doing for at least a decade now.

The current legal, regulatory and technology ecosystem still has gaps, making implementation of a 100% Digital model a challenge and, therefore, some activities will need to be done offline.

The Digital impact

Of course, there are many nuances to how the new-age lending start-ups have catalysed newer ways of lending. Be it newer scoring models that include unconventional variables like social media, online sales or SMS data to improve scorecard predictability or bringing customer experience to the fore while making a loan application process seamless or demonstrating opportunities and scalability in short-term, granular loans to sub-prime customers. This has nudged legacy banks to up their game, especially in retail and small ticket loans.

Similar influence seems to be appearing in Supply chain finance models. Another impact of the entry of start-ups is the impetus it has provided for Co-lending and Risk-sharing models.

But much of the ‘Digital Lending’ is also pure intermediation play, akin to lending marketplaces (or less euphemistically Direct selling agents), promising to provide best loan offers from a portfolio of banks.

The real game changers in ‘Digital Lending’ space are P2P and Crowd funding. Of which, Crowd Funding seems dead already with SEBI restricting equity crowd funding and all survivors having pivoted to Social crowd funding. P2P survives but is still in early days. These are potentially real paradigm changes, with its own risks and advantages, of course

In short, ‘Digital lending’ is too generic for now and RBI may need to look at tighter definitions. From a regulatory perspective, business models based on real lending are already a subset of existing guidelines on Loans and Advances and related stipulations for Banks and NBFC.

The wider regulations, therefore, will need to focus on usage of channels and communication to customers. The recent circular on digital lending may just be the first step in that direction.

By : Amit Balooni

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