Why do we need credit? We avail credit to address our unmet needs such as buying an electronic appliance or a house, or to fund our children’s education, buy livestock, or start a business – the needs are varied. The reason? Quiet simply to make life better for ourselves and those dear to us. Still, billions of people remain out of the credit ecosystem due to socioeconomic inequalities and insufficient creditworthiness.
To be able to avail a bank loan, banks expect customers to have a good credit history indicating their ability to take a loan and pay it back.
Unfortunately, vulnerable groups such as migrant labourers, workers from the unorganized sector, domestic workers, blue-collar workers, etc. cannot comply with these guidelines. This is because they don’t possess the necessary resources such as a strong financial background and/or demonstrate a high purchasing power to prove their creditworthiness. Yet they are also the ones who need credit the most.
With no access to institutional credit they “…turn to informal channels despite high interest rates and risk of exploitation by unregulated players (Development Asia, 2020).”
Alternative credit scoring, a fintech invention, can address this paradox by providing a reliable assessment of creditworthiness of the most vulnerable persons to regulated lenders.The Personal Data Protection Bill concerning access to alternative credit data is currently in Parliament for passage.
Alternative Credit Scoring and its Sources
According to Development Asia, 2020, “Alternative credit scoring refers to the use of data from digital platforms and applications on consumer behavior for credit risk assessment” by NBFCs (Non-banking financial companies). Alternative scoring provides information from multiple sources to ascertain a person’s creditworthiness instead of relying solely on data from credit bureaus that is used by lenders to assess credit risk. With the help of AI and ML-powered algorithms,fintechs derive alternative credit scores from payment history of utility bills e.g. electricity and gas; customer’s work history through social media platforms, psychometric data through customer surveys, smartphone analytics e.g. no. of calls made, SMSes sent mobile bill payments, digital (UPI) transactions, etc.
All these points of information are used by fintechs to approve loan applications for customers. Decimal Technologies, a fintech company, has solutions for MSMEs. Decimal looks for Past Financial Statements as well as Income Tax returns to assess a potential client’s credit risk profile. In order to augment their assessment, Decimal uses cash flow data and other business metrics which serve as surrogate or alternatives to formal data sources.
Digital transactions in the last decade have simplified the process of gathering alternative credit data that is reliable and well-documented. Thus we can see alternative credit scoring drive financial inclusion of the most vulnerable into the credit ecosystem.
5 Benefits of Alternative Credit Scores
- Inclusivity in credit access: Alternative credit scoring allows a vast number of people to enter the credit ecosystem especially those from the bottom of the pyramid, which is good for both lenders and borrowers in terms of business. It presents possibilities and opportunities for both parties.
- Growth and development: More people get access to credit to enhance their standard of living. This is also a positive development for the country’s micro and macroeconomic growth, human development, etc.
- New customer base: both traditional lending institutions and non-traditional can access a larger and newer customer base that is in need of credit. Banks and NBFCs thus have a large and diverse pool of customers to take their products to.
- Accelerated underwriting process: alternative credit information can speed up the lending process when compared to mainstream credit reports. This is because the latter consists of dated or historical information from formal sources only, which might be inadequate for users who haven’t been exposed to formal banking sectors, and its overall assessment is a tedious process. Alternative credit scores aid quick decision making.
- Faster digitization: The COVID-19 pandemic has provided the impetus for the financial system in India forcing banks to either go digital or go under. It is also a catalyst for fintechs pushing them to accelerate and upgrade at the speed of light to sustain the demand for digitization caused by the pandemic. The push for alternative credit scoring “will not only help banks improve business agility and market responsiveness, but also enable them to capture new market segments and deliver personalized customer experiences” (Tata Consultancy Services, n.d.).
With more power comes more responsibility – this couldn’t be more true in the case of Fintechs. As Fintech in India makes strides, it will continue to play a vital role in transforming India’s social landscape. Fintech tools like alternative credit scores have the potential to close the inequality gap by making access to credit a reality for all. It can pull millions out of poverty and enable a life of, as Indian Prime Minister Narendra Modi puts it, “identity, dignity and opportunities” (YourStory.com, 2018).