What’s up with BNPL (Buy now pay later)?

Shubhaansh Kumar

The RBI had recently issued a circular that prohibited non-bank prepaid payment instruments (PPI) from being loaded with credit lines. This move comes amid concerns of the RBI, that such credit instruments are a systemic risk.

Before further elaborating on the current scenario, we need to understand what is the Buy Now, Pay Later (BNPL) scheme

BNPL is a debt instrument, that is used to provide short-term financing to consumers for the purchase of goods and services. It has increasingly become quite popular among the masses, especially during the pandemic. There are certain advantages to using BNPL that entice customers to opt for this kind of financing.

The benefits such as:

1.      Interest-Free installments

2.      Fast and convenient

3.      No hard credit checks

While these benefits make them an extremely alluring financing product for the customers, they are dangerous from the Central Bank’s point of view. With tightening monetary policy and defaults by global players such as Afterpay and Zip, the RBI wants to ensure that there are no surprises to the Indian economy.

With easy approval and interest-free installments, there is a fear of overborrowing and overspending. Sounds familiar? A similar situation was the backbone of the 2008 financial crisis. The availability of easy credit can lead to higher rates of spending and thus, inflation. At current interest rate levels, higher inflation is the last thing that is needed in the economy.

There is also concern regarding the data collection and approval techniques of such firms. As it is relatively easy to get approval on such platforms, there is an increased risk of laxity on the part of the firm in credit risk assessment. This leads to an increase in the chances of default, and with growing popularity, it has the potential to send the entire system in a downward spiral.

At the same time, it is important to note that the RBI’s guidelines only talk about non-bank PPIs. The omission of banks, in the guidelines, posits a question – whether banks are allowed to load their PPI offerings with credit lines?

While banks rely on credit bureaus to build and assess a person’s credit score, new-age BNPL firms rely on data analytics and machine learning models. As with any machine learning model, there is a need for time. A machine learning model needs enough data and time to train itself and make better judgments. Current defaults by global players could just be an initial peak, and as the model gets trained and adapts, the default rate may plateau.

But at the current state of the economy, the RBI is, and rightfully so, not willing to take the risk on BNPL offerings by fintech startups. In the current geo-political scenario, it is extremely important for the Indian economy to play safe and not experiment.

Shubhaansh Kumar is a student of BSc (Economics and Analytics) at Lavasa, Pune Campus.