Sound regulation can boost cryptocurrencies' use for P2P lending
P2P lending and cryptocurrency are both relatively new models in the fintech space, but shared objectives and complementary features signal an opportunity for mutual growth.
After all, the promise of P2P lending is financial democratization, which goes hand in hand with the decentralized nature of the blockchain. Here, we’ll take a look at P2P lending and the massive benefits it stands to gain from implementing cryptocurrency assets (any cryptocurrency-based holding, such as bitcoin or Litecoin) and smart contracts (a computer protocol that verifies a contract without the need for an intermediary third party).
P2P lending is a simplified banking model that allows borrowers to bypass traditional financial institutions and secure funds directly from individual investors. The practice fell into obscurity after banks came to power during the 20th century, but was revived following the 2008 financial crisis when institutional distrust, stringent lending regulations, and low-yield savings accounts compelled consumers to seek alternative financing.
In the present-day, most P2P lending companies have scaled up as intermediary platforms that facilitate the lending process, but the industry lies at a critical juncture. Several large players in the space (Funding Circle and GreenSky) are in the process of or have completed unicorn-scale IPOs; funding sources for loans have increasingly shifted to larger institutions, such as hedge funds; and the market is projected to be worth $1T USD by 2025.
Cryptocurrency holds the key to unlocking the next step in P2P growth. Using digital assets, such as bitcoin, for collateral and Ethereum smart contracts for transparency dramatically minimizes overhead, creates systemic trust and leverages the explosive social momentum driving cryptocurrency.
Crypto-enabled P2P lending will undoubtedly draw millennials. The majority of millennials graduated into an abysmal post-2008 job market and have developed a healthy distrust of banks. In a recent Harris poll, 27% of millennials said they would rather own $1,000 worth of bitcoin than the equivalent amount in stocks, a number that bumps up to 38% among males.
Similar numbers hold true across other traditional financial assets, including real estate (22%), government bonds (30%) and gold (19%). The numbers might seem small, but in context of such a new asset, they suggest millennials are highly invested in mainstream cryptocurrency adoption.
Furthermore, P2P loan terms and vetting are more flexible, affording millennials greater ease of access in an economy suffering from stagnating wages and rising costs. Integrating crypto also provides new financing models, especially with the ability to lend against other cryptocurrencies. These trends suggests that crypto and P2P lending are poised to grow in tandem, each fulfilling a specific need for the millennial demographic, which has previously been reluctant or unable to invest using traditional methods.
As custodians of our assets, financial institutions must operate with a reasonable level of risk adversity. P2P lending attracts borrowers with spottier financial histories, and the cryptocurrency market goes through intense, headline-grabbing boom-and-bust cycles. However, both crypto and P2P lending are still in their infancy, and related regulations are in a confusing transition state.
Safeguards are already in place. For example, all crypto P2P lending platforms follow standard KYC/AML compliance (or are in the process of doing so). The immutability of the blockchain adds another layer of verification, as the user’s transactions are permanently recorded in a transparent, trustless ledger. (As an additional benefit, banks can streamline due diligence processes and enjoy huge cost savings.)
The most pressing issue, then, is being able to lock in conversion rates, and, on a broader scale, validate smart contracts. In the US, smart contract regulations are being passed on a state-by-state basis, in some cases with minimal technological knowledge. The potential for chaos is great. Implementation of federal, even international, guidelines for smart contracts is an essential part of legitimizing crypto P2P lending and maximizing the opportunity provided by blockchain’s borderlessness.
Despite the libertarian bent of its reputation, the crypto community is eager to work toward intelligent compliance that gives the industry space to grow by stabilizing markets and getting institutional money in. While the slow wheels of government grind forward, it is understood that the value of blockchain transactions hold only if a reasonable amount of good faith can be ensured and the majority of decentralized apps are now building with that in mind.
Blockchain technology, specifically smart contracts, also have incredibly tangible implications for day-to-day operations. First is the additional level of security provided by smart contracts. Although, yes, websites dealing with crypto do tend to be prime targets for hacker activity, code deployed on the Ethereum blockchain lives in unalterable perpetuity. The very nature of the blockchain ensures an unprecedented level of security against cybercrime.
More specifically related to P2P lending, crypto-as-collateral will revolutionize the industry; the savings just on an operational level will have huge bottom-line impact. Historically, collecting collateral on defaulted loans is a lengthy, cumbersome process, which necessitates third-party involvement (the “repo man”) and involves physical assets, like a house or a car. With crypto, assets leveraged against a loan can be stored upfront in a smart contract, eliminating the need for a repo man altogether. Asset management will become easier, faster and cheaper, and lenders can back up loans with greater peace of mind.
Cryptocurrency generates an absurd amount of skepticism and fear, but taking a clear-eyed view reveals a path to stability and sustainability, including the inevitable adoption of crypto in P2P lending, steps to mitigate risk, and how blockchain can ultimately be leveraged to increase security and reduce costs. The two industries have a lot in common, and by leveraging the strengths of each, both can reach their full potential and fulfill the promise of their technology.