5 Challenges for lending in the era of Covid-19
Covid-19 presents an entirely new kind of financial crisis. It is unlike all previous financial crises in which for whatever reason the economy slows, unemployment rises, and it is followed by swift action from the government to kick start the economy again. This crisis is different in that people cannot go back to work and produce things; they cannot go to their favourite restaurants or spend a leisurely afternoon shopping. Some sectors, such as restaurants and travel, are suffering, and people are losing their jobs all over the place. As people and businesses struggle with the Covid-19 pandemic, the lending industry is facing unprecedented challenges.
For example, Monzo is asking its staff to cut their salaries. While at the same time, we have other sectors that are flourishing. Amazon has hired an extra 80,000 people, and Klarna use in the US sees a boost in specific areas. The entire way in which we are spending our money is seeing a radical shift and all in a few short weeks. Thus the full disruptive potential of Covid-19 is yet to be revealed.
Here are five challenges for the lending industry that have arisen in the last few weeks:
1. Delinquency and insolvency rates rise
Some forecasts suggest that the significant reduction in business and consumer activities through at least March and April followed by the economic impact from this shock to the global economy could mean that delinquency rates will rise sharply. Yet, it is difficult to anticipate how much delinquency rates will increase in each market for two reasons. Firstly, the crisis arose faster than any other financial crisis in history. Secondly, this is an unforeseen type of crisis, which means old truths do not necessarily apply. Sweden is at particular risk. As even before the pandemic around a quarter of all lending by the significant niche banks was classified as risky.
In countries with little room to manoeuvre lenders are behaving incredibly conservatively. For example, in Ukraine, lenders have become much more cautious and already stopped marketing campaigns. In Ukraine, the economy had already begun to slow down due to a global drop in demand for iron ore and the strengthening of the Ukrainian Hryvnia.
Conversely, in countries where governments can afford to bail people and businesses out with helicopter money, lenders are being much less conservative. For example, Germany is giving freelancers 5000 EUR, and they get the money in less than 24 hours. Sweden is another great example. The Swedish government is releasing 500 bn SEK to banks to lend to companies. This works out as 50,000 SEK per person in the whole country. The government is going one step further and is taking 70% of the risk for banks in business lending.
2. Regulatory changes to APR caps
To protect people from excessive indebtedness and reduce the number of bankruptcies amid the current economic situation, some countries are even making moves to cap interest rates for consumer lending. Finland, which has around 400,000 people with bad credit records has introduced an interest rate cap on consumer lending at 10%, previously 20%, and has banned their direct marketing to consumers until the end of the year. Similarly, Poland has proposed lowering the APR cap significantly, from 55% to 21%. A complication can therefore occur if the APR is too low for the risk lenders are taking, it could in fact be counterproductive and result in some people losing access to financial services.
3. Payment freezes, grace periods and interest rate freezes
Governments and other institutions globally are racing to support people and business in these challenging times. Some of these have included a 2-4 month grace period of interest freezes. Italy has introduced a €25 billion package to support companies and employees, which includes freezing loan payments and suspending mortgage payments. Polish banks will facilitate the suspension of principal and interest instalments of loans for up to 3 months. Mexican banks are offering up to four months of grace period for loans. Similarly, Sweden has introduced a measure to encourage lenders to offer loans to businesses free from payments for the first year.
However, this presents several challenges. One of the biggest challenges for the lending industry will be providing smooth processes and tech support for handling the huge demand for business loans. Many banks might want to give loans to businesses, but through limited scalability and slow processes, it won’t be effortless to distribute the loans. Another potential challenge for business lenders is that while we are morally and ethically obligated to offer loans to businesses at this time, there are additional risks for lending such considerable sums in a financial crisis. Finally, it could present real challenges to smaller lenders if imposed in some countries, such as the FCA proposing to freeze payments and overdraft interest rates for all customers.
4. Access to funding
In these challenging times, access to funding is more limited than it has been for a long time. Globally, bonds issued by alternative lending companies are selling at a discount. International Personal Finance bonds on the London stock exchange have been trading at 17.5% – 4% discount. Börse Berlin is trading Ferratum bonds at 20% discount, and Mogo Finance bonds have been selling at a 31.91% reduction. People are taking their money out of stocks and bonds and putting into savings accounts with protection. The result of which in Sweden is that there is a massive surge of lending companies offering high rates on savings accounts, to attract new customers so that they can lend more money.
Moreover, peer-to-peer platforms are experiencing a crisis of their own, after Kuetzal and Evestio collapsed. It has also recently been alleged that Groupeer was involved in scamming practices. As a consequence, investors are withdrawing their money from all peer to peer platforms and instead offering loans in the secondary markets with big discount markups.
5. Currency fluctuations
Smaller countries with their currencies are more susceptible too large, erratic swings in currency value than larger countries with large banking systems. This is related to the fact that smaller nations are relatively more reliant on just a few industries, so the expansion or contraction of one sector can have a significant impact on the exchange rate, output and employment. So, in a financial crisis, these countries become even more vulnerable and with the price of oil, gas, sugar and other resources plunging it means the currency of countries particularly reliant on any one particular resource are sent plummeting too. People self-isolated in their homes, and not travelling or moving has sparked a historic global plunge in demand for oil. In particular, this means, top oil-producing countries, such as Mexico, Norway and Colombia, are experiencing a plummet in currency value.
Although we don’t yet know the full impact of the economic slowdown as a result of Covid-19, or the full extent of the challenges for the lending industry the situation in the lending industry will rebound. In the meantime creditworthy customers (businesses and individuals) need “bridge” funding to overcome this temporary situation. To move forward and help these people and companies we need efficient and responsible lenders to step-up. Ultimately those that step-up will be strengthened by this situation rather than weakened.
Moreover, additional positive outcomes could include, people beginning to look past their differences as we all have in recent weeks with the new shared external threat. Perhaps after this is all over, more of us will work from home more often – this period has proven that it is possible and straightforward. We cannot predict the future but one thing that we can say for sure is that through this we have all made at least a small step towards becoming more digitised.
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About Erik Bennerhult
Erik Bennerhult is the CEO and co-founder of Näktergal. He has a proven track record in building cutting-edge banking systems and his 20 years in the industry with different banks give him a unique perspective of lending. Founded in 2015, Näktergal enables banks to scale, boost efficiency and enter new markets – basically making lending more straightforward and accessible to consumers and more intuitive for bankers. Its products include a business lending platform, a mortgage lending platform, a consumer lending platform and deposits.
About José Luis López Pino
José Luis López Pino is the founder of SHUTTLE99 OÜ, a fully remote company that owns a network of websites monetised through affiliate marketing agreements, promoting financial and travel services. Occasionally José consults for companies on project and people management. With nearly 10 years of experience, José is an expert in business, lending and data science.
You can find the article in Spanish here.