When Credit and Culture Collide: The Role of Informal Lending

When Credit and Culture Collide: The Role of Informal Lending

In South Africa’s changing financial markets, the introduction of new legislation can radically alter the dynamics of the formal and informal credit market – forcing consumers to change their borrowing behaviour, and driving credit providers to adjust their offerings accordingly.

With the implementation of tighter lending criteria following amendments to the National Credit Act in 2015, the unsecured lending industry witnessed a contraction in the consumer credit market in South Africa.

“In 2014 and 2015, the majority of unsecured loans were less than 6 months; in the fourth quarter of 2014 the introduction of Income Verification saw the quantity of short-term loan reduce-  and then in 2015 we once again noticed a major shift with the introduction of Affordability Checks” – says Theunis van Rensburg, the Head of Credit at Wonga Finance SA (Pty) Ltd.

Speaking at Datacon 2019, van Rensburg elaborated that “The proportion of short-term loans diminished, and we saw an overall shift in the number of loans funded – with income verification, many consumers didn’t have an easy way to verify their income. While we were able to automate this process for our customers, we saw that the broader unsecured and micro-lending industries suffered due to the sizes of their loan products decreasing. This begged the question: where are these customers going who clearly still need a credit solution?”

”Data can only bring us so far”, van Rensburg says. ”We can do analyses and build machine learning models, but at some point we have to have some connection to our customer. If no data is available, then we need to do some research.”

As van Rensburg cites, there was understandably little research available on South Africa’s informal lending sector - largely due to the fact that informal lenders engage in an unauthorized and unregulated lending activity in the first instance.

As a result, Wonga commissioned research into the extent and characteristics of informal lending in South Africa in 2017.

The purpose of the research was to explore what happens to consumers who are not able to access credit from formal providers and the possibility of a link between more restrictive regulation and a growth in informality.

Conducted by research and analytics consultancy Eighty20 focussed on ‘mashonisas’, a term often translated as “loan sharks”, and their activities, which are common in townships and informal settlements around the country.

Who and what are mashonisas?

Mashonisas are illegal and unregulated, which means their operating models are not impacted on by regulations and they incur no compliance costs in terms of the National Credit Act. The research highlighted that informal lenders meet a fairly specific need that is, in general, not well catered for by formal lenders – showing that in some cases, it is entirely plausible that consumers who are unable to access credit in the formal sector would access informal sources of credit.

The study also revealed a series of surprising insights which lay the foundation for a new understanding of the informal credit market, differing somewhat from conventional wisdom. It suggests that mashonisas are a far more widespread phenomenon than is often thought. Based on a physical count conducted in the streets of Enkanini, an informal settlement outside Khayelitsha, researchers conservatively estimated that there could be at least 40 000 mashonisas operating in South Africa. In fact, the qualitative evidence collected suggest this is likely to be a low estimate.

Mashonisas offer quick and easy access to small, short-term (less than one month) cash loans that are utilised by borrowers to manage their monthly cash flows.

Research into the informal lending sector revealed that interest rates ranged from 30-50% per loan, which can last from just one week to over 30 days. Loans range from R50 to R5 000, and are largely used to cover expenses ranging from food, transport, school expenses, or unplanned events.

Customers are also likely to seek out a mashonisa due to their proximity, the fact that no documents or credit bureau records are required, and the guarantee of a quick payout.

Informal lenders frequently market by word-of-mouth, referrals, or community knowledge, and use an informal vetting process – where borrowers are often screened through low-value ‘starter-loans’, personal relations, or referrals.

Mashonisas usually collect repayments on an agreed date where part payments are allowed, and consumers who fall into arrears run the risk of physical intimidation, having their IDs or bank cards taken as security, or can have their assets seized. Dispute resolutions usually take place through mashonisa societies, or through community leaders.

Regulation

When asked as to how unsecured credit and micro-lending industries can take greater cognisance of the informal lending market – and how changes in regulation could protect consumers, van Rensburg says that “…the conversation with the National Credit Regulator is around risk – if we over-regulate, we drive more and more people out of the formal credit market; which is what we’ve seen as the result of previous regulatory changes.”

”When access to formalised products are taken away, customers inevitably go to the informal lending sector”, van Rensburg explains.

”We did this research to drive a conversation. The biggest problem many customers have is access - and one of the reasons many people might turn to the informal lending sector is ease-of-access. At Wonga, our mission is to leverage technology to serve those customers in a formalised and regulated way. We’re trying to build an industry where credit is easily accessible and fair – for the customer, and our business.”

“We can also serve our market by driving this conversation with the regulator, especially ahead of any upcoming changes to legislation.”

You can read the full findings of Wonga’s Informal Lending Report online.