The Paycheck Protection Program was Fintech’s “moment to shine”. This Spotlight also revealed the problems with these loans
Business has boomed for Kabbage Inc. during the pandemic.
The online lender to small businesses has disbursed billions of dollars in pandemic relief through the Paycheck Protection Program, earning a good sum in fees for their troubles. Along with other fintech lenders, Kabbage says its technology has enabled it to make lending decisions quickly, with little human intervention, transferring funds to borrowers at lightning speed.
In an interview, Kathryn Petralia, co-founder and president of Kabbage, said PPP was “fintech’s time to shine”.
The Fintech approach has its downsides, however. And in the PPP postmortem, policymakers from the Consumer Financial Protection Bureau and other financial regulators are taking a hard look at how fintech lenders have been doling out money during the pandemic as the agency shapes its public opinions on identical consumer and small business fintech loans, according to a source familiar with the matter.
Underlying the discussion is one of the top priorities of the Biden administration’s financial regulators: fair access to capital for minority communities and the role of Big Tech in the economy. Rohit Chopra, the recently confirmed head of the CFPB, focused on algorithmic lending in one of his first public statements in the role, saying lending decisions made with little human involvement could “unintentionally reinforce biases and discrimination, undermining racial equity”.
A CFPB spokesperson declined to comment on algorithmic lending and fintech regulation more broadly, but stressed Remarks made by Acting Director Dave Uejio in September about the agency’s proposed small business lending rule that would require certain institutions to report small business lending data to better understand lending to businesses owned by minorities and women.
What happens when people are removed from the loan decision-making process?
While the CFPB considers the fairness of fintech lending, Kabbage and other companies have touted the virtues of algorithms when it comes to fair lending decisions.
Petralia said Kabbage can process loans faster than traditional competitors and devotes fewer human resources to loan decisions, meaning each loan costs less to process. This allowed the company to process smaller loans from new customers, whereas larger banks would be more likely to believe they could make more money with a larger loan or a loan from a pre-existing customer. she said.
“These big banks didn’t wake up saying, ‘We want as few minority-owned businesses as possible’; the system is just configured to generate this result, unfortunately,” she said.
Certainly, research found that in the PPP program, fintechs were more successful than traditional banks in reaching out to minority-owned businesses, according to a recent National Bureau of Economic Research. work document.
According to the analysis, PPP fintech companies provided a disproportionate share of loans to black-owned businesses. The researchers found that the lack of human involvement actually helped fintechs lend more to black-owned businesses, suggesting a “potential role of discrimination” among other lenders for the disparity.
Trap for fintech: PPP lending rules don’t reflect real world conditions
Fintech’s work with minority communities in the future is not a given, say political watchers.
While Marisa Calderon, executive director of the National Community Reinvestment Coalition’s community development fund, said the “anonymity” of fintech loans could be a bonus for minority borrowers, the structure of the PPP program, where there was very low risk for the lender, may not be a universal example for regulators to watch in the future.
“Some of our borrowers mentioned that they thought it would be easier to get approved if they didn’t go somewhere they could see what they looked like,” she said. “When your only interaction is on a computer, you are just a number on a paper or a name on a paper.”
But algorithmic lending presents its own challenges, depending on the data used to train the lending algorithms, she said, and the PPP has set very specific guidelines for lending decisions that don’t necessarily mimic experiences. of the real world. So even if fintech lenders succeeded in distributing capital widely in the PPP, that does not mean that they would have the same success in a more open system.
Exchange efficiency, expanded access for potentially higher levels of abuse
Fintech’s quick and easy decision-making model has arguably helped distribute aid faster and more widely, although it also appears to be more susceptible to fraud.
Although the CFPB has not spoken about it publicly, experts in the field say that the model used by some fintechs during the pandemic has some drawbacks that federal regulators will need to consider when shaping fintech lending policy.
A paper from the McCombs School of Business at the University of Texas at Austin analyzed PPP loans and found that fintechs were “responsible for a disproportionate share of suspicious loans”. The document also noted that the lack of human contact could widen access, but “it also appears to be expedient for bad loans.”
“There seems to be a real trade-off between expanding access, this push for quick, easy, as-fast-as-possible removal, which has come with a very real cost sensitivity to abuse,” said John Griffin, co-author of the article and professor of finance at the University of Texas at Austin.
Kabbage, which spun off its PPP loan portfolio to K Servicing when most of the business was bought by American Express Co. last year, was at the center of that debate. The Department of Justice investigated fraud at Kabbage and other fintech lenders, Reuters reported in May, and ProPublica find that Kabbage lent millions to non-existent businesses, many of which were bogus farms.
Petralia declined to comment on ProPublica’s findings or Reuters’ report on the DOJ investigation. The DOJ declined to comment.
“There’s always something you’d want to change and something you’d do differently, but our mandate was to get as many dollars for as many customers as possible, and if you put too many doors in the way, you end up not serving the people who need to be served,” she says. “It’s a difficult balance to strike.”
Not all PPP lenders had suspiciously high lending rates, Griffin said. Some companies, including established lenders like Intuit Inc. and Square Inc., had some of the lowest suspect loan rates.
“It’s not clear to me that fintech loans will inherently be more prone to fraud in other contexts,” he said. “It is very possible that fintech loans that use big data, algorithms, etc. be just as careful as traditional lenders. We just haven’t seen that with PPP.
This story has been updated to note that the DOJ declined to comment on its investigation into Kabbage.