
How a Trillion-Dollar Market Remains Hidden in Plain Sight - funkyy
http://techcrunch.com/2014/10/05/how-a-trillion-dollar-market-remains-hidden-in-plain-sight/
======
Animats
Peer to peer small lending is easy. Peer to peer small debt collection is
hard. That's why the low end of lending is so expensive.

~~~
justinsb
I remember reading the T&Cs for one of these 'marketplace lenders'; they would
do collections for the lender, if the borrower was 60 days late (which doesn't
even seem that late). But the lender would get nothing, setting up a huge
conflict of interest for the marketplace: they could make a lot more money on
a loan in default than a successful loan.

Wild West indeed.

Edit: Yuk.. "Currently, Lending Club charges investors... 18% of the amount
recovered if the loan is 16 or more days late and no litigation is involved".
In other words: an automated-payment screws up, Lending Club sends a letter to
the borrower, who fixes the problem: Lending Club takes 18% of the principal.

[https://www.lendingclub.com/public/rates-and-
fees.action](https://www.lendingclub.com/public/rates-and-fees.action)

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7Figures2Commas
Parts of this article gloss over important facts.

> These new platforms are able to create a marketplace where lenders and
> borrowers can find one another and agree to terms, all without the
> involvement of retail banks or credit card companies.

Credit card companies provide revolving lines of credit; the author's
"marketplace lenders" provide term loans. These are two different beasts.

While some folks do use term loans to pay off debt with a higher interest rate
under a revolving line of credit, the non-professionals eager to finance
consolidation loans would be wise to heed Mark Cuban's advice, "Always look
for the fool in the deal. If you don't find one, it's you."

> And instead of receiving 1% interest for keeping their money in a CD, active
> lenders on marketplace platforms receive, on average, an 8% return on their
> investments.

Most CDs are FDIC-insured. Casually comparing an FDIC-insured certificate of
deposit to an unsecured note that has both credit and interest rate risk is
insanely foolish.

> Earlier this year my whitepaper on marketplace lending forecast that the
> sector has the potential to originate $1T in loans globally by 2025.

"Marketplace lenders" are absolutely here to stay, but the influx of capital
to this space has a lot to do with ZIRP. The author doesn't acknowledge this,
but when interest rates start to rise, which could happen within the next
year, the environment for "marketplace lenders" is going to change.

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userbmf
Market lenders aren't banks. They cannot use fractional reserve banking. If
they take in $100 they loan out $100. A bank takes in $100 having loaned out
$10K to satisfy reserve requirements 10% (likely less but keeping it simple).

So if most lending moved to market lenders we would see a collapse in the
money supply.

~~~
jackgavigan
If the bank's reserve requirement is 10%, wouldn't it only be able to lend out
$90 of the $100 it had taken in deposits?

~~~
downandout
Kind of, sort of, but not really. The $90 that was lent, at some point, winds
up back in a bank, where that loan is now a new deposit. Then 90% of the $90
can once again be lent out. Now that original $100 deposit = $171 in loans.
And on it goes, until that $100 deposit is roughly $1000 floating around in
the economy. This is called the "money multiplier".

Here's a chart that shows the expansion potential of money at various reserve
requiements:
[http://en.wikipedia.org/wiki/Fractional_reserve_banking#medi...](http://en.wikipedia.org/wiki/Fractional_reserve_banking#mediaviewer/File:Fractional-
reserve_banking_with_varying_reserve_requirements.gif)

This also shows how banks make so much money, and why there are both laws and
services designed to encourage people to keep their money in banks. A $100
deposit generates slightly less than $1K in loans. At only 5% interest, the
banks will realize $50 in interest per year on the ~$1K in loans enabled by
that single $100 deposit.

~~~
nhaehnle
This is not how banking works. I give a shot at a better explanation here:
[https://news.ycombinator.com/item?id=8413408](https://news.ycombinator.com/item?id=8413408)

> A $100 deposit generates slightly less than $1K in loans

If that were true, the amount of money in circulation would be infinite,
because loans also end up as deposits.

Edit: More to the point, look at actual numbers in bank balance sheets. The
amount of loans tends to be roughly equal to the amount of deposits (the
precise ratio varies with bank business models).

~~~
downandout
_> This is not how banking works_

This is precisely how banking works, at least in countries that have
fractional reserve requirements.

 _> If that were true, the amount of money in circulation would be infinite,
because loans also end up as deposits._

Nope. It would only be infinite if the reserve requirement were 0%. Look at
the chart I linked to. This goes on all day, every day at banks around the
world. New money is created through credit, subject to the limitations imposed
by each country's reserve requirements.

~~~
nhaehnle
What do you have to say about the empirical evidence that the total amount of
deposits and the total amount of loans in the system is of the same order of
magnitude? This clearly contradicts the typical money multiplier story of "X
amount of deposits creates X/reserve requirement amount of loans" you have
posted.

Furthermore, check out countries without reserve requirements. Do they have an
infinite amount of money in circulation?

Yes, banks create new money through credit. However, this is _not_ limited by
reserve requirements (if the empirical evidence still doesn't convince you,
please read up on how the central bank will always lend the required central
bank money to banks when they need it, i.e. the lender of last resort function
of central banks). You have to look at capital requirements and general
borrower demand and quality to understand what's going on.

~~~
downandout
Its very simple. Bank A receives a $100 deposit and lends $90. That $90 goes
into bank B. Bank B lends $81 of that money. That goes into bank C. Bank C
lends $72 of that money, and that goes into bank D.

None of these banks has lent out more than 90% of their deposits, yet the
money has multiplied. Of course, most banks will never be able to get to 90%
because demand for loans from qualified borrowers isn't high enough. But this
is how the system works.

~~~
jackgavigan
For anyone reading this, downandout is correct.

nhaehnle has a deeply flawed understanding of how the principles
underlyingmodern banking, and is confusing different funding sources. Do not
accept what he says at face value.

~~~
nhaehnle
And yet both of you lack an actual argument or any piece of evidence to show
that I'm wrong. So, the first point is this:

Even if I take a charitable interpretation of what downandout writes, they
still contradict themselves. First, they wrote:

> A $100 deposit generates slightly less than $1K in loans

In the latest comment, they wrote:

> Bank A receives a $100 deposit and lends $90. That $90 goes into bank B.
> Bank B lends $81 of that money. That goes into bank C. Bank C lends $72 of
> that money, and that goes into bank D. > > None of these banks has lent out
> more than 90% of their deposits, yet the money has multiplied.

I suppose this shows that they are aware that deposits are roughly equal to
loans. But then why write that 100$ of deposits generates roughly 1000$ of
loans? The two statements are clearly contradictory. [0]

The second point is this: Perhaps this is a confusion about where deposits
actually come from? Today, most deposits are usually made electronically, but
even if you actually go ahead and deposit physical money at your bank, that
physical money at the bank has previously been withdrawn from a bank account
somewhere.

But even if 100$ of physical money were to appear by magic in your wallet and
you then went ahead and deposited those at your bank, this would _not_ cause
an increase of loans by 1000$. There is just no process in modern banking
where anybody at the bank says "Oh look, our deposits have increased, let's go
loan to somebody". That just doesn't happen - go talk to actual bankers!

The truth is that the level of loans in the economy is primarily determined by
(a) how many people/companies apply for loans and (b) how creditworthy they
are. [1] The amount of loans given out by banks _might_ additionally be
limited by capital regulations.

However, at no point anywhere does the amount of deposits determine how many
loans a bank makes. If anything, it's the other way round, because the level
of loans determines the level of money which determines the level of deposits.

I know that your story is the one that a lot of laypeople (and even
economists!) perpetuate. Unfortunately, it's just not true.

[0] I honestly fail to see how one could fail to see this. My only explanation
is that you people were told this story from when you were children, that you
accepted it unquestioningly and it was never pointed out to you.

Edit: Perhaps, to spell it out and make the contradiction more obvious: You
assume 100$ entering exogenously as new deposits. You now apply the statement
"100$ of deposits generate 900$ in loans". Fine. Those loans become deposits,
so now you actually have 1000$ of deposits additionally to the starting point,
900$ of which you have not yet applied the statement "100$ of deposits
generate 900$ in loans" to. You now apply this statement 10 times, meaning
that 9000$ in loans are generated. Ad infinitum. It just doesn't make any
sense even disregarding how the banking system really works.

[1] Note that this is a good thing, because it means that the economy is free
to grow quickly!

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narrator
The market is really only here while cd interest rates are stuck at near 1%.
That's likely to go on for a while. Right now the spread is big enough to make
this work.

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freshflowers
Yeah, because unlike taxis and hotels, loans aren't heavily regulated for good
reasons.

When did disruptive innovation devolve into reviving old shady businesses?

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JohnSz
This reminds me of www.zidisha.org where you can make micro-loans to 3rd-world
individuals.

~~~
rbinv
I think kiva.org is pretty successful in this space, too.

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justincormack
"5% of originations" er, thats not a sane margin. That is around where current
banks charge, probably higher, but banks take credit losses in that, but this
is pure intermediation.

