With regard to the growing use of BNPL, the RBI would have to strike a balance to allow innovation and yet have all safeguards in place.
The much-touted kid in the Indian lending space for the past few months is ‘Buy Now, Pay Later’ (BNPL). So much so that digital lenders (with or without NBFC licence), NBFCs, and banks have all jumped into the fray. Even the banks that have a large credit card base are pushing for newer BNPL products. The Indian market has only 3 crore unique credit card holders (which is approximately 3 percent of its total banked population). This allows for the BNPL segment to grow.
The market analyst view on this is a divided house. Some think BNPL is all hype and set to fail. Many think it’s the future as it caters to the young demographics that India boasts of. Some feel that BNPL products would replace credit cards as youth are new-to-credit consumers. And et the fact that even banks which have a large credit card customer base are offering BNPL products. BNPL is also causing worries to the regulator as there have been instances of a few lending companies that have issued credit lines to customers without their prior consent. This not only affects their credit scores but also technically is a loan that the customer never even took in the first place. More importantly, the youth are using BNPL as a lifestyle enhancement product, rather than using it to finance livelihoods. No wonder, this lending product (or service as some see it) is on the radar of the regulator—the Reserve Bank of India.
BNPL is also causing worries to the regulator as there have been instances of a few lending companies that have issued credit lines to customers without their prior consent.
It is a financing arrangement which allows one to buy a product or use a service, without paying for it upfront. From a financing point of view, it is a short-term loan which the BNPL lender pays to the merchant—who is providing the product or service. The merchant pays a commission to the financier for the arrangement, as this BNPL service increases the higher shopping conversion rate. This financing arrangement is usually given at the Point of Sale (PoS). Be it in physical stores or online platforms, the BNPL facility is proving to be convenient to a segment of consumers, especially the younger audience. While its adoption rate is increasing, it is not a new financing format. For decades, it has been used by the old-age kirana stores to extend credit to their customers, who paid at the beginning of the next month. Those merchants had built-in the credit costs into the product pricing and were able to offer purchase convenience to their buyers.
Typically acquiring a credit card requires a decent credit history. BNPL is proving to be a quicker alternative to the new-to-credit young audience. According to a recent research report released by RazorPay, the BNPL market in India grew more than 637 percent in 2021. During the previous year, the segment had grown 569 percent. Another report by Redseer, a consulting firm, estimated the BNPL market to grow to US $45-50 billion by 2026. A recent PWC report titled 'The Indian Payments Handbook 2021-26’ forecasts that BNPL will be one of those catalysts which could enhance the usage of digital payments.
How was the formal credit concept in India three decades ago? In reality, the retail credit market started evolving with volumes only in the early 2000s. This retail offtake started with the advent of multiple variables: Kickstarting private banks in India in the late ‘90s which introduced the concept of retail loans, opening up of the Indian economy and the introduction of newer financial products, a plethora of satellite TV which brought programming to showcase the lifestyle of the global societies, a favourable young demographic base, increasing salaries compared to pre-liberalisation—for example, college students and youngsters could work in BPOs and earn a side gig income while at college.
The Government of India and its entities are the largest consumers of the domestic credit pool, with their sovereign rating, which nudges out other institutional borrowers with lower credit rating.
Over 65 percent of the population is less than 35 years of age according to the current demographics of India. This young cohort is digitally-savvy and is comfortable with using technology-enabled banking. This has also been enabled by the proliferation of mobile phone connectivity and lower cost internet data access. This offers a huge opportunity for the lending community to serve existing and newer consumers, using digital options.
Yet there is a structural challenge in the Indian domestic debt market. It is very shallow in terms of its size and number of players. The Government of India and its entities are the largest consumers of the domestic credit pool, with their sovereign rating, which nudges out other institutional borrowers with lower credit rating. This makes the banks the primary lender for even non-banking lenders, thereby, creating a conundrum. The non-banks don’t have many other sources to borrow in the domestic debt market. If the banks and non-banks are targeting the same set of consumer segments, why would banks fund the non-banks? The idea of co-lending between banks and non-banks seems an exercise in futility or a showpiece attempt.
The biggest disruptor in the lending sector is technology. Earlier, finance companies having a large branch network across the length and breadth of the country was seen as a business moat. With the adoption of technology by the consumers, this physical distribution network is being challenged by the ability to use technology to acquire, serve, and retain consumers. FinTech investors are also scaling up by using their equity capital as a surrogate debtline and using data science to effectively serve consumers. From the very outset, financiers didn’t have robust credit rating, their ability to borrow from the domestic debt market was limited. The challenges around some of the market dynamics and behaviour of market players seem to worry the regulators, especially around credit undertaking algorithms using consumer data, usage, and protection of consumer data, and the larger concept of BNPL itself.
Of late, social media has been seeing a lot of complaints that consumers have seen a huge drop in their credit scores after they had been issued BNPL loans by financiers without any prior consent. The RBI recently stated that it was looking at this issue as well as the issue of fake lending apps preying on the consumers. Globally, the financial regulators worry that easy access to credit, especially for discretionary spending, without adequate financial literacy, might push the borrowers into a debt trap. Rightfully, the RBI is examining it closely as our consumer market has many layers of social-economic strata, and the topic of lending or its consequent issues is also a politically sensitive topic. A few years ago, we saw this play out in the microfinance space. In a social democracy, the onus of consumer protection rests with the regulators, and despite their efforts, if consumers get into financial issues in spite of repeated warnings, the issue makes life difficult for regulators. A regulator wants to have regulations that offer consumer protections to ensure users can afford the BNPL credit they are actually offered.
The challenges around some of the market dynamics and behaviour of market players seem to worry the regulators, especially around credit undertaking algorithms using consumer data, usage, and protection of consumer data, and the larger concept of BNPL itself.
Is this why financial regulators are fussing over Non Performing Assets (NPAs)? In a private investing frenzy that the Indian finance sector is witnessing in the form of the rise of FinTech entities, of size, scale, and consumer impact, does the concept of NPAs still be considered the gold standard? The PE community has used its financial might to push for changes in consumer behaviour, even at the cost of higher NPAs. They have been ready to continuously pump in equity capital to provide for those losses and requisite regulatory capital. Is this another reason why BNPL worries the regulator? The fear that these entities could continuously lend and over a period of time change the borrower habits into a debt trap or that irrational lifestyle adoption would become a norm if such borrowing products are available loom large.
BNPL seems to be attracting consumer interest for its flexibility. Yet the harsh reality is that the BNPL industry has to build a profitable business model, and that they cannot depend on valuation hype alone. The finance sector especially needs to build consumer trust, and more importantly, earn respect from the regulators. As a business model, there is no free lunch and there is no such thing as ‘easy money’—Someone has to pay for it!
In this digital finance journey, the expectation is that the RBI will also announce its stand on these issues. With digital finance, the regulator will have to strike a balance to allow innovation and yet have all safeguards, including consumer protection, systemic risks, privacy issues, data sanctity, etc. This is only a start in the digital era. With evolving technologies, more such developments will test the concept of regulatory proactiveness, as well as who defines what’s right for the society.
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