July 31, 2016
Over the past six months, alternative finance, in particular, P2P lending, has gone through a trial by fire, where several events have scandalized and bruised the reputation of the industry.
First, there were the scandals of mass defaults taking place on lending platforms in China – articles like these came into prominence at the beginning of 2016 as poor governance and oversight exposed dodgy loans being sold to retail investors looking to make a quick buck. So far, in China alone, a report by the South China Morning Post shows that the number of P2P platforms has declined by 7%, and due to the number of untracked, lesser known P2P companies out there, the number is probably far, far worse.
Then came the scandal of Lending Club, where findings of faulty internal controls and irregular sales techniques led to the resignation of the company’s CEO, Renaud Laplanche. In addition, the CEO had a personal interest in one of the investment companies buying the loans, which was not disclosed fully.
In both the economies, retail and wholesale investors have reported to have significantly reduced the amount of lending they are doing on alternative lending platforms – this could be the first punch which could floor the industry, as, without liquidity, lending ceases. The second is regulation. As the regulators of the world look around, many of them are deciding how to deal with P2P lending. Some countries have already taken decisive steps one way or the other, but others are watching and waiting. And there is a real risk that scandals such as the ones mentioned could force already cautious regulators to take decisive steps to shut down the industries in their regions altogether.
Let’s pause there for a second, and move away from the alternative finance industry, move geographies away from the massive economies of China and USA, to a smaller economy, Kenya.
Over in Kenya, where I am from, we have seen banking scandal after banking scandal continue to dog and torment the industry. Two mid-sized banks recently fell afoul of regulatory policy, and were placed into receivership over the last nine months, one for operating an internal lending scheme by the Managing Director and member of his management team, and the other due to liquidity issues caused by a run on the bank following a qualified opinion issued by the auditors. The reason for the qualification? Hidden internal loans. Do both of these sound familiar? They are exactly what is taking place within the alternative finance industry right now.
In the WSJ article about Lending Club mentioned above, one analyst is quoted as saying, Our faith and trust is shaken. – How many times have the same words been mentioned every time there is a banking scandal somewhere around the world? Yet the banking industry remains – why? Because finance has to grease the wheels of progress.
The difference between conventional lending and P2P: one has been around for centuries and has the power to influence governments. Which one am I talking about? Conventional banking? Wrong! P2P has been around for way longer, from informal lending schemes to the more technologically driven methods seen today. The main reason why P2P is so important is that it helps enable small businesses to receive financing – and this is the one reason why governments hold them in some regard.
If this industry was founded to help support the smaller guys who could not get financing in the wake of the global financial crisis, then innovators must not take their eye off this ball. Unless countries and governments can think of alternative mechanisms of trickling down liquidity to the small guys, P2P lending needs to remain. What needs to change is the existing laxness and greed that has befallen the industry – as the innovators continue to innovate, they should realize the responsibility which they carry for growing this industry, and so implement strict governance and adherence to internal controls.
P2P needs to set an example and a precedent for banks to follow, in the same way, it continues to do so with technological innovations. It isn’t for the regulators to decide how this is done, the industry should take the bull by the horns and take this initiative forward. Perhaps a global P2P Code of Conduct and rules surrounding internal controls would help (perhaps there is one already, for example through bodies such as the Peer 2 Peer Finance Association).
While conventional banking can continue to be dogged by scandal after scandal all over the world, its sheer size will continue to allow it to function. Meanwhile, just 10 years of existence does not give the P2P industry the same luxury to prevent it from being given the deadly one-two knock-out blow that could floor it for life. Let’s wake up and wrest the initiative back in its favor.