The disparity between the influence that credit bureaus have, and the extent to which borrowers understand them, is one of the most valuable gaps that good financial education can fill.
The role of a credit bureau can be summarised in the following process:
- A prospective borrower requests a loan from a lender.
- This lender consults a credit bureau (CRB) on the credit-worthiness of the borrower i.e. based on their history, how likely are they to repay.
- The CRB responds with a credit status or score.
- The lender then makes a decision whether to grant the requested loan.
- If the borrower does not repay the lender within 90 days, they are termed as a defaulter and blacklisted (negatively listed) on CRB.
See image below.
For borrowers, knowledge of this process is critical in the current climate where the current infrastructure of CRBs is not making life easy.
Many bureaus employ simple ‘yes/no’ models, often basing their report on the simple metric of whether or not the borrower has a default history at all, often without consideration of the amount defaulted, or without factoring in positive financial behaviour.
In such a climate, there is little room for error for borrowers. A solid understanding of credit scores, and the factors which impact them, will be immensely valuable for them.
What is the current situation?
There is no shortage of data to articulate the extent to which customers are failing to appreciate the consequences that defaults or late payments have on their credit rating, or what this might even mean.
An article published by CGAP shares various statistics on the extent of NPLs (non performing loans) in East Africa. The most troubling figure shows that, in a given sample, 85% of loans had not been repaid within 90 days.
There may be many factors at play which are leading to these outcomes, but there is strong evidence to suggest that a lack of customer know-how combined with a lack of transparency from suppliers is contributing significantly to the behaviour observed, with 19% of surveyed Kenyans saying that they did not understand the terms and conditions of their loans.
This was echoed by Transunion CEO Billy Owino’s recent statement:
“Most of the borrowers do not know how they got blacklisted. We get like 200 calls daily from individuals in this category asking how they ended up in the blacklist.”
There is also evidence to suggest that the impact of this knowledge gap is being compounded by the very medium of mobile money itself; though digital lending platforms have the advantage of being quick and easy to access, this ‘lightweight’ means of borrowing appears to come with a flip side.
CGAP shared data which suggests that borrowing through mobiles ‘feels different.’ Many digital customers reported that they took loans purely out of curiosity, often without an actual intended use for the money; something that they would be unlikely to do through more traditional and physical loaning services, some of which would come with the added benefit of expert person-to-person advice.
Moreover, we must not overlook the fact that many borrowers are simply new to the loaning space – nearly 20% who have applied for a loan through us have no credit history. Is it then so surprising that so many would benefit from some guidance?
Why is it so critical to fill this knowledge gap?
We believe that if used well, credit can be a wealth creation tool for low income segments of the population. It can allow borrowers the chance to climb the financial ladder, bring themselves financial inclusion and freedom, and ultimately, be able to afford critical expenses such as feeding their families and sending their children to school whilst also thinking about the long term.
And mobile lending has made this opportunity easier to access than ever before.
But insufficient knowledge of CRBs, the implications of NPLs and the credit system in general can all too easily take this opportunity away from borrowers. One default and they may find themselves struggling to borrow again.
Moreover, people need to know how to protect themselves. The sector is rife with scammers, and borrowers must be aware to raise a red flag when confronted by institutions offering unrealistic benefits, asking for registration fees, or using unverified social media data to assess credit-worthiness, to name just a few malpractices. Further, in an increasingly digital and integrated financial sector, cybercrime is an increasingly potent threat, with mobile money services opening up new avenues for cyber criminals to breach payment systems and customer databases.
Filling the knowledge gap
Through our new financial education curriculum Patascore Academy borrowers will be taken through the essential components of the credit system. They will understand what a CRB is, what a credit score means, how and why they should aim to improve it, and why they should protect their identity.
Furthermore, our robust credit scoring platform Patascore ensures that borrowers are scored fairly. Quantitative data combined with psychometric data gives us a clear picture of their capability and also their willingness to repay loans, and they are provided with a loan size that accurately represents both.
In the scenario where an applicant receives a low credit score that does not qualify them for a loan, they are taken through financial education again, and encouraged to re-apply at a later date. For those who do access loans, this is only the beginning of the journey. We offer them tips on how to further improve their score, granting them access to better and better loans, and enabling them to climb the ladder to financial empowerment and freedom. (See our value chain below).
Credit score education a ‘no-brainer’
We believe that, given the data presented, it is obvious that customers need clear and easy-to-follow information on how credit scoring works if we are to succeed. That is, if we are to create a marketplace that leads to financial inclusion for the underserved.
The worst case scenario is a credit bubble full of financially excluded individuals. The best case scenario is an increasingly empowered society, with the right credit scores that lift them up the formal financial ladder and improve their well-being in the long term.
Let’s make certain that we are moving towards the latter, and so ensure that digital credit comes hand-in-hand with the necessary guidance on how to use it well.