Decentralized peer-to-peer (P2P) lending is turning the finance world on its head. But with dizzying returns and sometimes crippling losses, the question remains — is it really the future of lending?
The crypto community — that bustling group of entrepreneurs, investors, and tech enthusiasts from around the world — is leading the charge in how new cryptocurrencies can be leveraged. Many in that community suggest that the best way for crypto investors to increase their bottom line is to use currencies such as Bitcoin in order to lend money. There is the fervent belief that P2P lending can decentralize financial dealings to such a degree that it will either supplant or revolutionize an archaic banking system. Borrowers no longer need to go through the arduous process of applying for a loan from conventional lenders. They are able to access a credit line anywhere in the world, quickly, and with little fuss. It is hard to argue against the trend. Morgan Stanley estimates that the industry will grow by a staggering 51% annually until at least 2020. At first glance, it seems like decentralized P2P lending is a valuable concept, especially in a subprime lending environment. However, all is not what it seems.
A New Trend on the Rise?
The most significant reason for the rise of P2P lending is its ability to meet a growing demand. Many cannot access conventional credit lines when they need to, and this adversely affects both private individuals and growing businesses. After the 2008 crash, conventional banks have been hesitant in their lending habits, and this has resulted in credit lines being closed would have been open in the past. With 45 million people in the US alone having little or no credit score, entrepreneurs are opening up the trade routes, so to speak. They are lending money and providing financial services to those most in need, while the status quo banking system is not. Most importantly, they are doing this without the obscenely high interest rates pushed by controversial credit schemes such as payday loans and other financially crippling loans.
So is everything rosy in the world of decentralized P2P lending? This new industry faces difficult challenges which will make or break cryptocurrency as a new way to secure credit.
There are several hurdles ahead which the industry must overcome in order to legitimately challenge establishment lending systems.
The first is identification. Every lender needs to know as much as possible about the person or business to which they are giving a loan. A valid means of checking a potential borrower’s suitability is paramount. Furthermore, how do lenders verify the identity of a borrower online? Conventional creditors use credit score agencies and bank records, but these records are, by their very nature, centralized. Theoretically, a decentralized identification network could do this job, but if mistakes are made, who foots the bill? Also, would such a network even be legally relevant? Who would oversee it without a centralized credit score database such as those provided by credit rating companies? It’s difficult to see how a decentralized P2P lending network could deal with these issues in a more secure way than by using 3rd party solutions from industry professionals who use centralized data from different sources.
Connected to the above issue is scamming. Both lenders and borrowers alike can be certain that wherever money is changing hands, hackers and scammers will be there in abundance. While decentralized P2P lending is innovative, it is in its infancy, and whenever a new technology is in its early stages, that is when scammers thrive the most. They will probe and look for new schemes and exploits in order to defraud both debtors and lenders. Fake documents and online profiles could feasibly be used to apply for a P2P credit line because the industry is not regulated yet the way that the banking system is. There are fewer checks in place to limit the scope of such criminal behavior. BTCjam was supposed to be a flagship for cryptocurrency lending, for example. It sanctioned 22,000 loans, providing credit of more than 64,000 bitcoins, yet rumors persist that a large amount of these loans defaulted because the debtors had scammed the system or were not properly vetted.
A final nail in the coffin could be the issue of educating and encouraging low-income individuals and businesses to take the plunge and use decentralized P2P lending. Cryptocurrency is still a new technology, never mind using it as a credit line! Many are not aware of its existence, let alone the fact that it can be used to borrow money. And for those who are aware of both, there is a fear that cryptocurrency has little value due to its volatility. With 2017 seeing huge gains and losses alike for bitcoin, it’s easy to see why many feel reluctant to dip their toe into the cryptocurrency pool.
Nonetheless, despite these difficulties, all is not lost for this brave new frontier of lending.
There may be a way to improve upon the P2P lending approach — a new solution which can be partially decentralized. The technology of “crowdvouching” deserves special attention in this regard (crowdvouching is the practice of financially securing a loan repayment by vouching for monetary contributions from a large number of people).
In a recent development, the technology has come to the forefront as a Suretly platform. Unlike P2P lending, customers of crowdvouching platforms don’t lend money to each other. Instead, a large number of people vouch for a potential borrower when that individual applies for a loan.
Crowdvouching can incorporate both fiat money and crypto assets as valid means to secure a loan, while simultaneously protecting creditors from defaults. This will boost the reputation of crypto as a viable asset which can be used to secure a more conventional credit line. It is a combined approach which uses the advantages of both crypto and the standard banking/lending system.
This comprehensive model allows mitigating the main drawbacks of P2P lending in order to build and reinforce the industry, as it involves using traditional lenders’ infrastructure in order to invest crypto assets wisely.
The evolving industry brings countless opportunities for people and financial institutions. Yet, each robust and wise business’s comprehension to manage the capabilities will be critical to identifying and catching those opportunities. Ultimately, the proper use of resources and assets plays a key role here.