Credit Information Bureaus (CIBs) have been an integral part of our financial system for decades and they certainly do their bit in protecting lenders as well as benefiting borrowers (to some extent). In today’s world, the most dedicated users of credit scores are medium and large scale financial companies, specially in the developed world. In other areas, where micro-finance is slowly spreading it’s roots, credit rating agencies promise to address many obstacles related to the high-touch model.
Quantitative data (income sources, cash flow repayment rate, number of outstanding loans, etc.) are now being used to assess the risk of lending to small scale borrowers,and today we share some of the benefits felt by borrowers in this emerging industry, in particular, and overall financial markets, in general.
1. Pre-Calculated Credit Scores Speed Up Lending Process
Credit bureaus can efficiently provide access to information needed to sort out high-risk clients from low-risk clients. Automation of the loan approval processes significantly reduce the time taken to evaluate loan applications, thereby saving the client’s time, which may be better invested in the actual business or doing other productive tasks. The quicker the loan is approved, the quicker the client may start his/her venture.
2. Better Financial Discipline
Credit scoring mechanisms penalize high-risk clients with poor repayment histories and reward borrowers with good credit discipline. Default-prone clients are subjected to unfavourable loan conditions (smaller size, higher interest rate, frequent repayment schedule, etc.), while low-risk clients are eligible to avail favourable pricing structures and better customer service. Thanks to the level of transparency set by the US Government, everyone has access to their credit reports for free, and this helps encourage consumers to adopt prudent financial management practices that improve their credit scores. Some of these practices are:
- Prompt repayment of bills and loan installments,
- Avoidance of over-indebtedness,
- Taking steps to reduce chances of personal bankruptcies, etc.
3. Access to more options
Credit bureaus centrally store information about all clients in a country and this data can be universally accessed by different financial institutions. As a result, clients can easily apply for loans or credit lines in different towns or cities and this “frictionless transferability of borrowers” increases the range of clients that can approach any given bank. In turn, this encourages banks and lending agencies to be more competitive.
4. Fair selection process
There is always a possibility that lending officers manipulate client information in order to favour certain customers, or that they mistakenly refuse credit to valid applicants. This possibility of nepotism and false negatives is greatly reduced if quantitative, non-subjective data is systematically analyzed to arrive at a credit score that everyone has access to.
This is by no mean an exhaustive list of benefits for clients so if you have any other points in mind, please share them. Next week’s article will talk about the benefits of credit rating agencies for lenders (and yes, there are way more benefits, which should come as no surprise because they created this system of dependance.)