Peer-to-peer and here-to-stay (part 1)
Last week's CIPR Corporate and Financial Group talk on peer-to-peer finance brought together figures from the industry with stalwart commentator Anthony Hilton to look at the future of the industry. In the first of a two-part blog, Josh Glendinning assesses why peer-to-peer is proving so attractive for savers and borrowers
Disruptive business models and new technologies have made an impact felt in nearly every part of the modern economy. From the demise of many famous high street names to the rise of the budget airline, few industries have been immune to bolshie upstarts and new ways of doing business.
These new business have a number of common elements. Firstly, they rely on disintermediation or, to put it in less formal terms, cutting out the middle man. The resulting savings can be passed on to customers through lower prices. Secondly, they provide greater choice such as allowing consumers the option to forgo unnecessary extras thereby further reducing prices. Finally, they are often heavily reliant on the flexibility provided by the internet and other new technologies. For example, online retailers can out-compete many high street rivals because they do not have high overheads of renting prime retail space.
Ryanair, the sometime enfant terrible of the airline industry, has transformed the way we fly. Image creative commons courtesy of Ruthann.
Financial services as a sector has remained stubbornly resistant to these winds of change. The current account market is still dominated by the same small group of big players despite government efforts to improve competition. If anything, the financial crisis served only to consolidate this situation rather than disrupt it.
Arguably, this lack of innovation and new business models has had a knock-on effect in terms of productivity. While the sector grew massively during the boom years, productivity per worker in financial and insurance services has actually stalled since the turn of the millennium. As a major part of the UK economy, this lack of productivity in financial services may offer a part of the explanation for the present worrying productivity gap in the economy as a whole.
A lack of improvements in efficiency has a real impact for consumers who must bear the cost of increased charges and diminished returns. Meanwhile, the regime of low interest rate and quantitative easing over the past few years has left savers in particular desperately searching for yields which merely keep pace with inflation, as we’ve previously discussed in on the Shocks and Stares blog.
However, financial services may be about to have its disruptive day, as a result of the advent of peer-to-peer lending and crowd source funding. This new model follows many of the disruptive business models outlined above – disintermediation, increased choice and a reliance on the internet – to create a system of borrowing largely built around individuals and small businesses.
Essentially, peer-to-peer platforms allow large consumers to transfer relatively small amounts of money to a third party as a loan, donation, or equity purchase. Conversely, businesses and individuals can apply for funding through these platforms for any purpose – a home improvement, business expansion, working capital, manufacturing a product.
This model of lending isn’t actually new – it’s underpinned by the same principles that helped to found building societies as long ago as the eighteenth century. However, it utilises modern technologies to create an agile and diverse economy which could have a big impact on financial services over the coming decades.
It’s important to emphasise that the peer-to-peer economy is growing fast. Lending volumes in the UK have been increasing at an exponential rate over the past four years and will easily break through the symbolic £1bn mark this year. And it’s not difficult to see why. Savers can expect net returns of 6% or more before tax, compared to 1-2% for even the best-buy savings accounts. The rates are also very attractive for borrowers, many of whom are underserved by mainstream banks reluctant to lend on small scales.
Meanwhile, peer-to-peer is also becoming mainstream. As of the start of this month, the market is now regulated by the Financial Conduct Authority providing consumers with greater confidence. The Chancellor announced in the Budget that the first ever peer-to-peer ISA making it an even more attractive prospect. Finally, Google-backed American platform Lending Club is expected to float this year and the valuation is likely to make banks, investors and consumers sit up and take note.
The next few years look set to be a very exciting time to be in the peer-to-peer economy.
Next week, we’ll look at the types of peer-to-peer finance and funding available as well as how it might impact the financial services sector and financial communications.