On Wednesday, the United States Senate Committee on Banking, Housing, and Urban Affairs issued a press release announcing its desire to have the Consumer Financial Protection Bureau (CFPB) initiate an examination of the buy-now-pay-later (BNPL) sector, and many of the BNPL industry’s biggest names, including Paypal, Affirm, and AfterPay. The press release was issued in tandem with the actual letter sent by the Senate Committee to Rohit Chopra, Director of the CFPB, urging the bureau to “take action regarding the governance of buy-now-pay-later products”. The demand (let’s call it what it really is) ought not to come as a surprise to shareholders, stakeholders, and/or industry experts in the payments and fintech space, as it should have been assumed that the U.S. government would follow the lead of the U.K. in its push for greater scrutiny of BNPL earlier this year – this coming in February when the U.K. assigned its Financial Conduct Authority oversight, and the power to regulate the space.
Though there’s wisdom in ensuring oversight of the BNPL sector, especially as it relates to consumer protections, unfortunately, like many of our government’s policymaking, the rationale driving this policy is at best convoluted, and at worst, ignorant, lacking a thorough understanding of the buy-now-pay-later product, its value proposition, and its end-users
The six Senators who signed the letter that was sent to the CFPB – Jack Reed (D), Chris Van Hollen (D), Jon Ossoff (D), Tina Smith (D), Sherrod Brown (D), and Elizabeth Warren – put forth a simply structured argument for why BNPL micro-loans may cause “harm” to consumers. They argue that a lack of industry specific regulation from the CFPB may have “troubling implications” for consumers in three ways:
One: Consumers may not be fully aware of the risks associated with taking a BNPL micro-loan.
Two: Consumers may lack the ability to repay their loans.
Three: Consumers may not be able to build good credit with BNPL micro-loans because timely repayment isn’t reported to the credit bureaus by BNPL providers, but late payments can be.
Breaking it down.
In the case of number One, the Senators’ claim that a lack of consolidated account statements and disclosures from BNPL providers facilitates the obfuscation of a consumer’s ability to understand the terms and responsibilities for the proper repayment of a BNPL loan.
This claim is laughable.
One of the primary drivers of BNPL usage is its clearly stated terms of repayment, and the elimination of the typical credit-card issuer language that purposely buries fees, interest rates, and penalties in a lengthy document replete with finely printed, legal gobbledygook. For my part, I can’t tell from this line of reasoning whether the Senators are speaking from a place of ignorance, or are working to advance the interests of the credit-card issuer lobby that BNPL providers compete against. In either case, the claim is bogus.
Regarding number Two, this simply reflects a lack of understanding of the BNPL product and the people who use it. The general claim given by the Senators as to why consumers may lack the ability to repay their loans comes from the perception that the BNPL underwriting process lacks the “rigor” of traditional credit underwriting.
Correct. It’s supposed to.
BNPL is a product for consumers who would otherwise have difficulty getting credit approval via traditional underwriting processes. In this way, BNPL is enabling greater economic participation from consumers with questionable credit, or no credit history at all. Further, BNPL micro-loans are designed to enable the purchase of small-ticket items. The algorithms BNPL firms use to approve purchases are pulling data points that traditional underwriting doesn’t incorporate, including the type of store the consumer is transacting with, the product being purchased, the payment schedule the consumer chooses to commit to, and the amount, if any, the consumer chooses to allocate to a down-payment.
BNPL underwriting isn’t a bug of the product, it’s a feature that works for a certain type of consumer purchasing small-ticket goods and services.
Regarding number Three, it alone seems to be the most credible. It is true that BNPL firms do not report timely repayments to the credit bureaus. And this does, in fact, preclude consumers using BNPL loans from leveraging responsible repayments to raise their credit scores. But this ignores the primary reason why consumers are using BNPL in the first place – to buy things. It’s unclear to me, in fact I highly doubt, that consumers purposefully take out BNPL micro-loans with the express objective of increasing their credit score.
Additionally, it is true that if BNPL providers were to report all loans to the credit bureaus – both performing and non-performing – even good BNPL loans could be used against the consumer at a later date, if the credit bureaus’ algos allowed the short-term BNPL loans to lower the average age of credit accounts. But this is not a BNPL problem. This would be a credit bureau problem, and the Senators and CFPB would need to address that issue directly with them.
Investment bank take…
That the U.S. government is pushing for oversight and a regulatory regime to govern the buy-now-pay-later sector is not unexpected, and frankly, long overdue. I alluded to this in a blog post earlier this year when the U.K. announced its assignment of oversight to its FCA.
Whether or not this U.S. regulatory push was already priced into BNPL equities trading in the public markets is difficult to discern, though if Affirm Holdings (NASDAQ: AFRM) price action this week was any indication, the answer looks like a ‘no’ (though in fairness to AFRM, its poor performance this week must also be viewed in the context of the Fed’s comments regarding the acceleration of its monetary tightening)
Is the BNPL sector in jeopardy? Absolutely not. I’m of the opinion that BNPL will continue to take root, and become a permanent fixture in the consumer finance space, though it will be interesting to see how it adapts to this new governmental scrutiny and how it, in turn, will affect BNPL’s on-going battle for market share with traditional card issuers (I alluded to this in an earlier blog as well).
The biggest takeaway for me, sadly, is the lack of rigor behind the proposed new policies. The letter sent by the Senators to the CFPB does not reflect a thoughtful, well researched study of the buy-now-pay-later product or its users.
This should be concerning to all of us.
There are larger financial and payments technologies coming to the fore, particularly blockchain and open banking, that will require a tremendous depth of technical knowledge in order to create intelligent policy.