The Covid-19 outbreak has had a sharp negative impact on economies worldwide. On 24th June 2020, the IMF projected a contraction in global real GDP of 4.9 percent in 2020. Fundamentals of some economic sectors and businesses have already failed and many more expected to follow a similar trend.
Income levels have dropped and indebted households and sectors have been placed in positions where they might never be able to repay their debts in full – simply cash-trapped. For the majority of borrowers, the probability of default has increased. Banks and financial service providers have been fighting to keep the economy active, particularly the SME sector, which is the engine of the economy running.
The challenge to keeping millions of small businesses in operation is premised on the ability of the financial services sector to provide large amounts of liquidity to these businesses – as and when required. To this course, the Bank of Ghana reduced the reserve ratio by 2% and expects Banks to grant more credit with the extra liquidity released.
However, a decision has to be made to strike the correct balance between customers or sectors that have already suffered business decline and those that are potential winners during this pandemic. This is not easy when the time window to provide this liquidity is very short, even less for many SMEs just to keep them afloat.
The question then becomes if the industry players have the software and algorithms required to calculate pricing and valuations of collateral and ultimately provide loans and advances within the time frame.
Covid-19 has negatively affected the value of the data used in rating systems – making them almost unreliable.
For instance, all the data relied upon to test a business’ credit risk becomes obsolete due to the immediate stress caused by the pandemic. An attempt to rate SMEs with balance sheet data before the crisis as well as the past three months’ data obtainable from the Credit Bureaus would no longer be relevant as it will fail to provide an accurate assessment of a business’ current situation.
It goes without saying that in most cases, SMEs have generally prioritised salaries, paid their key suppliers, and delayed all the other payments including debt obligations. Traditional scoring systems would interpret this negatively and provide these businesses with automatic downgrades, increased cost of funding and reduced access to new credit.
Consequently, it is almost becoming difficult to distinguish the viable businesses from the façade of SMEs and this would negatively impact plans for economic recovery. The dependence on the capabilities of the financial sector’s risk management functions is in part, the answer to this ‘wahala.’ All banks, to an extent, use tools to calculate the credit risk of borrowers.
These tools and systems were not designed to take into consideration “Acts of God” on the scale of this pandemic when originating loans, overdrafts, and other advances. Instead of manually gathering information from a variety of sources and submitting to a potential lender, can consumers permit lenders to get what they need directly and serve them in time? Instead of SMEs submitting reports that could be inaccurate by the time lenders see them, can Banks pull all relevant data from the borrowers’ bank and accounting system?
Fortunately, there is a solution offered by new technologies such as open banking. Open banking would enable real-time, more personalized data on which to base risk and credit scoring. Open banking is the practice of sharing financial information electronically, securely, and only under conditions that customers approve of. The open-skies agreements which were signed by countries and regions allowed free movement of airlines across the world.
With open-skies came increased competition that led to inefficient airlines going out of business or getting sold, consumer ticket prices decreasing and greater efficiency and choice for the consumer, all leading to a surge in demand for air travel.
The financial services industry stands at the same juncture today. Shared data can provide risk management teams with the ability to score a company on its capacity to generate revenue. A business’ liquidity and transaction data can be measured by the transactions in its bank account everywhere.
It is this data that is the most relevant and important now. Financial transaction data, provided by open banking, would make it possible to check, in real-time, the presence of liquidity in a bank account and its evolution up to the present time. With algorithms categorizing data across a number of areas – salary, utilities, rent, and so on.
It is then possible to analyze expenses and cash outflows. This would produce a ‘super score’ that could look at high-frequency data points as well as lower frequencies such as credit behaviour or balance sheet scores.
The pandemic is speeding the need for more comprehensive, open data, scoring models for credit risk assessment. A firm interplay is immediately required between National Identification Authority, Bank of Ghana, Telecommunication Companies, Credit Reference Bureaus, and Fintechs. Collaborating to compete among all major players should be the new mantra if efficient and effective lending to viable sectors and households can be achieved.
Open banking is already enabling these changes and the credit risk management function is being transformed as a result. OCBC Bank of Singapore became the first bank in South East Asia to launch an open API (Application Programming Interface) platform which enables open banking services.
In the Philippines, Union Bank has done the same, and in Japan, Mitsubishi UFJ Financial Group and Mizuho have committed to this structure. In the US, where open banking regulation is not imminent, banks like JP Morgan, Wells Fargo and Citi have recently launched open API platforms. The European Payment Services Directive (known as PSD2), to which all banks in Europe complied with by late 2019, removes the banks’ monopoly on information relating to customer accounts, and allows any firm to provide financial services to customers.
Currently, due to the COVID – 19 pandemic mobile phone subscribers are allowed to use their existing mobile phone registration details to on-board for minimum KYC account. This is a signal of what is to come.
Most Banks in Ghana need to reconsider or reassess the impending restructuring in financial services in Ghana with the dawn of fintech. Utilising the advantages of open banking, however, should not mean discounting the essence of strong laws and regulations for privacy, security, and user rights.
Hence, there is the need for the Bank of Ghana to also establish clear institutional mandates and accountability while maintaining independent oversight to enforce legal and trust frameworks.
As we head towards transition and recovery, it is clear that traditional credit risk management and scoring models should be re-assessed through enabled solutions that will benefit us all.