Social Lending

Social Lending is another name for the trend of people lending/borrowing money to each other without the intermediary of a bank.

It is also covered under our entries of P2P Finance and P2P Lending

Definition

"The basic idea with social lending is that when you need money, others will pool their funds together and lend them to you at x% interest rate. Prosper uses your credit score to determine your risk rate and then based on that risk rate you bid for the loan with your terms. What makes Zopa & Prosper popular is the "social" aspect; that is you can post your story about why you need the money." (http://www.centernetworks.com/social-lending-web-2-0)

Description

Sander Van Damme:

"Very basically we can say that social lending (or peer to peer lending, both are actually synonyms) is the grouping of small amounts of money from many lenders to fund a project without (traditional) intermediaries. When trying to define peer to peer lending one cannot omit to talk about the recent impact of the internet and how this profoundly changed the way we handle borrowing and lending today. Peer to peer lending has actually always existed; it is the practice of people lending to each other without the intermediary of a bank. As such it is actually older than banks themselves. Rather than being a one-to-one service such as banks and other traditional forms of credit, it is a many-to-one service where many people fund a small piece of the eventual loan to the one borrower. Therefore it is inscribed in the crowdsourcing movement where individuals turn to the general public for ideas, work, feedback, etc. (Garcia, 2010). In the case of social lending this means using the 'crowd' to obtain financing for any project you have in mind. Although close to crowdfunding and microfinance, it needs to be differentiated from both. First, rather than trying to get funded through credit, crowdfunding tries to have many people buy some form of equity and thus make an investment in a yet-to-be-proven idea (Lambert & Schwienbacher, 2010). Second, it is also related to microfinance in the sense that it funds small entrepreneurial projects for people who lack access to formal finance. Nevertheless, unlike social lending's peers supporting each other, the funds for these microfinance loans usually come from institutions rather than the 'crowd'.

Klafft (2008) defines peer to peer lending as “online platforms where borrowers place requests for loans online and private lenders bid to fund these in an auction-like process.” Clearly in this definition we can see how 'online' and 'internet' are key terms in explaining the way it works. Many different websites exist and each of them has its own variation and therefore constitutes a different system. We will come back to this later on in this chapter when we evaluate some examples (see section 2.3) Nevertheless, the basics of it are as follows: a borrower needs to get funded for some reason and either does not want to go to the bank, or cannot receive a loan from it. He then has a few options left: he can try to borrow it from his friends or family (the well-known 3F: Friends-Family-Fools); he can go to a so.

called moneylender which offers him money 'without questions asked' at a very high interest rate; or he can go to one of the online lending platforms and apply for a loan. If he does the latter and fills out an application form on one of the social lending websites, it will subsequently be evaluated in some way; either by a local institution (e.g. a microfinance institution), the organization behind website itself, or fellow members on the platform. Once the request is accepted and published online, members prepared to lend to him express their willingness to do so. When at the expiration date of the loan request enough financiers are found, the amount requested is wired to the applicant. In order to minimize their risk, lenders normally only lend small portions of the requested loan and usually interact with many different borrowers as a means of diversification. After being funded, the borrower gradually repays the loan plus interest over time. At the end of the loan, lenders usually have some system to evaluate the borrower and give feedback on his repayment performance. This way, borrowers build up credibility and credit history on the online platform and future lenders base their funding decisions on this feedback (much like feedback mechanisms on eBay or Amazon.com). This system exists both in developed and developing countries, in the case of peer to peer microfinance we are talking about peer to peer lending on a microfinance scale. It means lending to disadvantaged borrowers from developing countries who ask for the loans to start a business in order to supplement their small income with its proceeds.

Most of these platforms however, although they call themselves social lending platforms are not actually the pure form of social lending where peers lend money amongst each other and the power to do so is with them. Usually the platforms act as intermediaries who screen the applicants and collect the funds in order to then channel them through to the borrower. As such they replace the banking institution which collects the public's funds in savings accounts and then lends them to loan applicants. Only very few sites exist where money travels directly from the lender to the borrower and the website is only the portal through which contacts are made." (https://www.zidisha.org/editables/news_docs/Louvain.pdf)

Examples

• 35 social lending platforms

For example:

1. Prosper (US)
2. Wiseclerk (Prosper feeder) (US)
3. Zopa (GB)
4. Boober (Netherlands)
5. Frooble (Netherlands - will re-open September 2007)
6. CircleLending (US)
7. Fygo (US)
8. Duck9 (US)
9. Paltrust (US)
10. LoanBack (US)
11. Community Lend (CAN)
12. Ireloans (IE)
13. La Tontine des Blogueurs (FR)
14. Smava (DE)
15. One2Money (DE)
16. FairRates (DK)
17. eLolly (DE)
18. LendingClub (social lending service for facebook users)

Also:

• An updated directory is maintained here at

http://www.wikiservice.at/fractal/wikidev.cgi?EN/BarCampBank/BankAndFinanceWatch

• In Europe: http://www.wiseclerk.com/group-news/countries/germany-p2p-lending-sites-in-europe/

Discussion

Research findings:

"Abstracts from the paper “Open Business featuring the Finance and Insurance field” conducted by E. Ezeani, S. Kizil, V. Kostakis, H. Kroezen and T. van der Schoot for the Msc course: ICT and Organisation, instructor: Anna Snel, University of Amsterdam, 2007.

(…)In the traditional model for lending there are used the 6 Cs as a metaphor to develop a framework for analyzing lending to individuals or organizations. These are capacity, character, credit, collateral cash flow and community. Apart from these, the decision-making process is hierarchical, with intermediaries also playing important roles. There is also the idea of credit evaluation. In the traditional lending system that is now being challenged by P2P financial model, before a credit is approved, it must fulfill the fore mentioned criteria known as the 6 Cs. Furthermore, because of this evaluation process and the often-difficult additional processes one has to go through, it has been uneconomical as well as time and energy consuming to borrow money through the traditional lending model. P2P finance model aims to overcome these difficulties and bureaucracy, thereby making lending more open and transparent, through disintermediation through the Internet and flattened intermediaries of decision making, financial democracy, and provision of technologies whereby people in a community of like minds can lend money direct to each other. (…)

(…)Moreover, Michael Hulme did an empirical research (2006, Internet Based Social Lending: Past, Present and Future, Collette Wright B.A. M.A.) based on 20 qualitative interviews and 1000 quantitative responses and divided into 2 questionnaires. Strangely enough, whilst 61% of respondents in his survey of general bankers felt that the main aim of their principle bank was to make money for themselves, 63% said they were very satisfied with the overall service they received from their bank. Similarly, whilst 44% felt that banks were very trustworthy, 49% felt that banks did not have their best interests at heart. (…) people have a diversity of positive and negative feelings towards banks. (…)

Prominently, P2P lending is encouraging a coalition among values and finance, in which finance moves beyond the transactional towards relationship and authentic emotional value, based on transparency and authenticity. “Modern day Social Lending has various ideological antecedents in friendly societies by focusing on a study of aspects of community and individualism” (Hulme, 2006).

In addition, Hulme (2006) has argued in his paper that the concepts of the individual within community, transparency and ethicality are fundamental to social lending schemes, providing the ideological foundations of the financial exchange. More concretely he asserts that “our research has suggested that Social Lending attracts a particular type of person who demonstrates a need for financial services founded on ‘good faith’, ethicality and a varying desire to participate in communities or networks of individuals where financial exchanges are based on principles of personal social responsibility, philanthropy, altruism and transparency”.

While P2P lending is unlikely to substitute mainstream banking, not least because it does not compete with the range of services they offer, according to Hulme (2006), we would expect that it will significantly increase its appeal to a mass but niche market.(…)"

More Information

3-part article on social lending starts here at http://www.centernetworks.com/social-lending-web-2-0

115 page report on the history of social lending, with case study of Zopa, at http://www.socialfuturesobservatory.co.uk/pdf_download/internetbasedsociallending.pdf

Blog: http://www.p2p-banking.com/