Which of the following is true regarding credit scoring systems?

The Surprising Ways that Social Media Can Be Used for Credit Scoring

Which of the following is true regarding credit scoring systems?

Many employers today are looking at the social media accounts of potential employees to get an idea of the type of person they might be hiring. They’re not the only ones — lending companies are also getting in on the act. And new research shows that some of the more unusual things you post or the people you might be connected to could have an impact on your credit score.

The paper, “ Credit Scoring with Social Network Data ,” was authored by Yanhao Wei, a Ph.D. student in economics at the University of Pennsylvania, Wharton marketing professors Christophe Van den Bulte and Pinar Yildirim, and Boston University professor Chrysanthos Dellarocas. Yildirim recently discussed their findings on the [email protected] show on Wharton Business Radio, which you can find on SiriusXM Channel 111 .

An edited transcript of the conversation appears below.

On the challenges lenders face in the developing world:

For the lending companies, there are a few things they would like to verify before they give their money to you. They would like to know that you are who you say you are and that you are indeed a good person. And when I say a good person, [I mean] someone whom they can trust, whom they can lend money to and expect it to be paid back to them.

It is a challenging task. In countries like the United States and [other] developed nations, this is perhaps slightly easier to do. There are alternate ways of getting data about you. [Lenders] can go find you, talk to you or talk to the people around you. In fact, there are more institutionalized ways of doing this, such as looking at your credit history, which is a way of collecting your financial data over a period of time. They can look up your credit score, and then make a judgment about you.

But this is a very challenging task when we talk about other parts of the world, the nations that are developing. There are four reasons why, in my opinion, [social media] became an alternate method of deciding whether to give a loan to somebody or not.

Think of India, Mexico, the Philippines or Columbia. These are the countries where we see some of these alternate credit-scoring practices most often. The reasons why they find these countries suitable is, first of all, there is a lack of financial access, and yet a huge number of people are moving into the middle class. They used to be in a family that had been farming for decades. And now there is the young person who just for the first time in his family graduated from school and is looking for a loan and has to somehow go through the hurdles of the banking system to obtain credit….

The bigger part of the problem for the majority of these countries, and people in the remote areas of these countries, is they have a lack of resources to [gain] financial access. There is no bank branch where they can go and apply for loans. The closest banking branch might be three hours away. And if you think about all of the possibilities or, let’s say, the lack of possibilities of transportation, that means if you want to get even the smallest loan you need to essentially do a day trip going back and forth. So there’s the lack of physical access to financial services, and this is something that we don’t normally think about. Around the Wharton campus we have a bank branch probably on every corner, but in other parts of the world it’s a major, major problem.

“Who you know matters. Your social network matters.”

Third, of course, there is a high level of bureaucracy and a high level of paperwork involved in any application in any part of the world where you need credit. I have been talking to a lot of the companies that do this type of business. The chief technology officer of … one of the companies that does this type of work cites this example: If you’re in one of the Asian countries [and] you need a loan, if you’re a decent person — if you’re making decent money, if you have a great job — then you go and apply for a loan. And they have these somewhat irrelevant, almost unacceptable criteria for you to obtain a small loan, such as you should be employed by the same company for about a year. It just so happens that in many of these developing nations, if people are good [at what they do], especially if they’re in technology environments, they keep changing jobs every six months or so. They are looking for the best next opportunity for themselves.

So, without looking at anything else, you just immediately disqualified someone from obtaining access to credit. On top of that, they have these ridiculous rules, such as I need to call your employer, and I’ll make only one call to your employer. And if your employer happens to be away from his desk at that point, you’re again disqualified for a loan.

The fourth hurdle is that, even if I can call people, I don’t have well established ways of obtaining data about you. There is no credit history in many countries. There are no histories of financial payments whatsoever. This might be the first time somebody’s applying for a loan anyway, so I don’t have an ongoing relationship with this person. In such environments, I need to look for alternate ways of finding data about people’s character.

We talk a lot about the Internet revolution that has happened in many countries, such as we talk about how, in the United States and in developed nations, the Internet has changed [commerce]. But the Internet revolution hasn’t happened yet in many countries. In many developing countries where landlines never found access to the remote areas, the Internet didn’t find access either. In fact, if you look at even the current numbers, only about 26% of the world has broadband Internet access. It’s actually a relatively low number.

Let’s look at an alternate source — mobile phones. Mobile phone [penetration] in the developed world [is] actually more than 100%. People have more than one cellphone. In developed nations, it’s over 90%. So, indeed, people have much greater access to mobile phones. And because of that, they also have access to some of the systems that come with mobile phones, such as social media. In countries like Thailand and the countries surrounding Thailand, there are plans for cellphones where you may not necessarily have an Internet package, but your cellphone has an option that you might, for example, pay a small fee so that you have access to Facebook. It’s a Facebook-app-specific Internet package. And Facebook invests in this, the companies, the social media companies invest in these.

On the growing use of social media in lending:

In an environment of this sort, what you are going to end up with are very detailed data about people’s mobile phone use. And because you know mobile phone use, you end up having information about social network [use] as well. And second, because they are also on Facebook, Twitter and other social networks, you also have access to their information from these sources.

For a smart company, this creates an alternate way of getting data about people’s personalities. And that’s exactly what these companies that have disrupted the financial access systems have figured out, that they can find data about your social networks, which would provide some sort of verification for who you are — first of all, that you are indeed a real person. Second, if you’re a good person you must have some good connections with people around you, you must have a certain number of friends, and you must have had this account for a certain period of time. [These companies] can gather so much more information about you using social media than by looking at your financial data. So it became just natural for them to move toward this direction.

We know that this is happening in many countries. Lenddo is one great example. It operates in Mexico, the Philippines and Columbia. It operates with lenders. It provides and collects information with the permission of the users. It collects information from social media and then crunches it. It runs the numbers and figures out whether you’re a good person — and again, I’m saying this in terms of creditworthiness — whether you’re a real person and whether you should be deserving a loan. And it gives this information to the lender, which then decides to essentially qualify you for a loan.

On why it’s more of a throwback than a trend:

As new as it sounds, this type of practice goes back many decades, in fact, I think about a century or more. In the old days when you needed a loan, [the bank] looked at who you knew. It tried to qualify you by talking to the people you knew. There’s a story that when someone asked for a loan from a big-named banker back in the day, he said, “Well, I can’t give you a loan, but just walk with me to the park and somebody else will.”

It’s the same idea. Who you know matters. Your social network matters. Twitter [The] concept that these companies are banking on — the idea that who you are with, the people who are in your social network, will have very similar traits and behaviors as you — is a very strong, very powerful idea here that they are taking advantage of. They’re simply looking at the behavior of people around you, and by looking at that, they can guess [with accuracy] how you are likely to behave.

On how the practice is being used in the U.S.:

Of course, the reason why we don’t see this in the United States is partially because there are a lot of data [available] about people. But we could still improve somebody’s credit score by looking at his or her social network. The reason why we don’t see this is, of course, regulation. Financial data, or anything that may relate to financial data, are heavily protected in the United States. And we have rules about discrimination. The reason why … a company that is smart and operating in this business may prefer not to be in the United States is because, if I’m looking at your social network and if I’m denying you for a loan based on your social network, that may end up as a discrimination lawsuit.

In some countries, “there is a lack of financial access, and yet a huge number of people are moving into the middle class.”

For example, let’s say my friends are gay, and that might be one of the reasons why, for example, I may then feel that I’m denied. Many of the traits that [bring] people together in a social network could be the basis for a discrimination lawsuit. And I believe that most of the companies operating in this environment are simply afraid that, even though they’re not looking at any of these things as part of their credit-scoring system, they may feel that this puts them at risk for heavy regulation and perhaps some lawsuits in the United States….

On how the research formula was created:

The way that this started was first hearing about some of the companies that requested your password for Twitter or Facebook in order to approve you for a loan. Of course, it’s a very unusual, very untraditional business. And then we started learning more about this practice that had been happening in the United States and in different parts of the world. We [thought], “Can we study the system? And can we look at, first, whether using social network data is going to result in a more accurate assessment of someone’s credit-worthiness? Second, once [companies] use this network and once people realize that [companies] are using these types of data, could they try to game the system, and at some point would this result in less accurate information?”

We are not necessarily classifying info as A, B, C, D. We’re looking at general information collection and if there is a level of similarity between your information and my information. Let’s say we are in the same social network. That says we must have similar traits to a certain degree. It could be a [very significant] similarity, or it could be something very small. But there has to be a certain level of mutual liking between the two of us, which is usually a function of our similarity, of the things that we enjoy doing together. And if we can collect additional information from people who are in someone’s social network, then we simply get better opportunities to clarify our beliefs about the person. We are simply getting verification checks….

On whether people could game the system:

Could you start gaming the system? We looked at this possibility. What we are finding is that yes, indeed, individuals [could game the system], if they could know somehow that you are a financially responsible person and I am financially responsible, and we all need to show that we are good individuals to the company on social media so that we can be considered worthy of a loan. We find that individuals will have some incentives to drop their friends or at least make the information, the connection of having a friendship with [certain people] less visible….

What that could do over time is [cause] some sort of fragmentation in social networks. Good types, people who are more financially responsible, have incentives to drop the bad types. That’s also true for the bad types as well. They have an incentive to be connected to a higher number of [financially responsible people]. And they have an incentive to be connected to a smaller number of bad types. That’s going to result in, over time, a segmentation or fragmentation of the markets. The people who are credit-worthy [will] be more connected to other credit-worthy individuals, and people who are not credit-worthy being connected to, again, other non-credit-worthy individuals. As a result of this then, firms [that use social media as a tool for determining credit-worthiness] are facing two challenges: First, now they are getting information from a smaller number of people because everyone has an incentive to get rid of the bad types in their own social networks. So I’m ending up with a smaller number of data points for every single person….

But the second effect that companies are facing is actually something that’s positive. If they can get information, if they can look at you and know that you’re trying to game the system or when everyone is trying to game the system, if you’re a high type, then the people around you are more likely to be high types. When I see a group of good types around you, then I have more confidence and a higher belief that you are indeed [financially responsible]. So that is something that can increase the accuracy. If enough people are trying to game the system, and they do actively change … their networks, the social network environment overall can still provide more accurate information compared to the data that would come from only the individual’s history.

On how widespread the practice may become:

This business is certainly growing outside of the United States. And I think that it has the potential to grow in the United States as well. It just has to happen that the regulators need to be convinced that this is a way to reduce the amount of risk, the credit risk that is out there. Nobody wants people who are not going to be able to pay back their loans to obtain a loan, because [loans that are bad] are what led to the financial risk environment and all of the crises that we have been facing. We need to somehow take initiative and say we want individuals to be assessed in a better way. We want better models than this. And we should be, perhaps, relaxing some of these regulations or finding alternate exceptions, finding cases where an individual’s social media data, especially if he or she wants to share those data, could be used in order to assess them for a loan.

“If enough people are trying to game the system, and they do actively change their networks, the social network environment overall can still provide more accurate information compared to the data that would come from only the individual’s history.”

On getting consumer buy-in:

I get this question all the time: Why would someone want to share this information? Because in some parts of the United States, also in many parts of the world, what might end up happening is [the data show] that you’re a credit-worthy individual. You’re someone who can pay back a loan, but there are no good ways for you to communicate this information to the banking system, just like the examples that I was giving earlier. If I am a good worker, if I am someone who has obtained a good education, but the bureaucracy and the financial system, these old rules, are simply not adapting to the new environment and are denying me credit, then you’re closing the doors for me to obtain a better life. You’re preventing me from obtaining a mortgage, perhaps, or a car loan or a loan for furthering my education. Many doors are closed to these individuals….

On how the practice could stimulate economic growth:

We hear from politicians, executives and the financial world that we need to empower the middle class, we need to essentially take people out of poverty, give them an opportunity for a better life. And how can you do this if people don’t have any means of improving their lives by either creating a business, perhaps, by taking a loan to invest in their farms or to use it for their education? That’s exactly why we like these systems. It creates an opportunity for people to do better things.

On the key takeaways:

One of the things that is emphasized by the companies that operate in this business is that people whom you never met in your life, and whom possibly you will never meet in your life because they are your friends’ friends’ friends now have the ability to affect your credit score. We’re talking about a very connected world and a world that is connected at higher degrees [than before]. So that means some people in your network whom you’ve never met will influence your score. And on top of that, [these companies] can look at everything. Once you give them access to your social network, they have information on anything and everything that you do. They look at things like how many friends you have and how frequently you communicate with them. They don’t sit down and read the messages, but there is a certain level of text processing that’s done. I know that some companies are, for example, looking at the use of faulty words, certain words can indicate [certain life circumstances].

An interesting example that was given by one of the executives at one of these companies was it looks at the correlation essentially between the use of language and your ability to pay back. People who use the word “please” are apparently people who don’t pay back. So, even words like this that are relatively unexpected can have some correlation. It has something to do with the everyday communication that people are used to, perhaps. And in their lifestyles, of course that [can] affect their language, the words that they choose to use when they’re asking for things. And that in turn correlates with how likely they are to pay their loans.

On top of that, these companies also will, for example, make you write an essay or a small paragraph to explain why you need this loan. And then you would write it paying a lot of attention to the entire content. But what they would see the end is not necessarily what you put in there, but how many grammar mistakes you made. That’s the type of thing that, again, can indicate how careful you are, perhaps how much you pay attention to detail, and of course, your education level.

which of the following is true regarding credit scoring systems?

The Credit Policies and Credit Finance Creation Practices by Commercial Banks in Ghana: Perspectives of Staff and Clients of the Prudential Bank Limited

John Kwaning Mbroh 1 , KwesiAsiedu Koomson 2

1 Dept. of Accountancy Studies,School of Business &Mgt Studies,Cape Coast Polytechnic,Cape Coast, Ghana

2 KNUST CEMBA Program,KNUST Kumasi,Ghana

To cite this article:

John KwaningMbroh, KwesiAsieduKoomson. The Credit Policies and Credit Finance Creation Practices by Commercial Banks in Ghana: Perspectives of Staff and Clients of the Prudential Bank Limited. International Journal of Economics, Finance and Management Sciences.Vol. 3 , No. 5 , 2015, pp. 441 - 452 . doi: 10.11648/j.ijefm.20150305.15

Abstract : Commercial banks play a crucial role in credit financing of individuals, institutions and generally, their clients. They use a system of credit management to govern their operations in this regard. Specifically, they do this through established credit policies or systems and to an extent, the relevant policy determines a given quantum of credit finance on case-by-case basis but most importantly, whether or not to grant the credit finance request upon assessment. Conveniently sampling the perspectives of both credit officers (15) and customers (67) of the Prudential Bank Limited, primary and secondary data sources were used, with the primary data obtained through unstructured interviews and two sets of self-administered questionnaire for the respective respondent-categories. The findings reveal that both categories of respondents recommend the need for the bank to decentralise its credit finance application processing and approval system. Due to the bank’s existing credit policy, customers had to wait, on average, one month for the approval or otherwise of their requests, with the salaried-worker customer-group granted more credit finance than the others. Also, the bank had granted more credit in the form of loans. Sadly, business persons and other categories of customers were waiting three months for response to their credit finance requests. The customers and their bankers disagreed in their respective perspectives regarding the main reason(s) for granting or declining credit finance requests as well as on matters of collateral security. Among others, the study recommends the shortening of credit facility processing time to enhance the bank’s competitive drive in the banking industry and also to make these facilities more responsive to the needs of the customers. Future research is expected to conclude on the extent of impact that banks’ credit policies have on their credit finance creation.

Keywords: Credit Policy , Credit Finance Creation , Credit Officers , Customers , Prudential Bank Limited (PBL)

Financial institutions, like the commercial banks, have become a reliable source of funding businesses, individuals, entities and so on. It is undisputed that in Ghana, the banking sector plays an intermediating role in both capital concentration and distribution. They do this by primarily offering credit finance in the form of loans, advances, overdrafts and so on. Being credit facilities, the banks rely on their established policies and procedures to regulate the funds. Frequently, the term ‘credit policy’ is used in this endeavour. However, Finlay (2009), noted that the word, ‘credit’, comes from the Latin credo translated "I believe". Indeed, it is the trust that allows one party to provide resources to another party where that second party does not reimburse the first party immediately (thereby generating a debt) but instead, arranges either to repay or return those resources (or other materials of equal value) at a later date. The resources so provided may be financial, consist of goods or services (see also Sheffrin, 2003; and Ingham, 2004).On the other hand, Miller (1999)argued that the word, ‘policy’, can be a broad and frightening term especially as most institutions having their peculiar policies, procedures and guidelines define them on their own terms. Furthermore, while it is widely appreciated that there is the need for these institutions to have a workable set of regulations, the word ‘policy’ carries some negative connotations of bureaucracy and inflexibility (see also Thompson, Jr., et al, 2005).

Fact is that the amount and frequency of financial credit offered by these banks, depends to a greater extent, on the terms and application of the respective credit policies practised by a bank on one hand, and the reception and responsiveness to the credit policies by the clients on the other hand. This situation calls for a relationship based on extreme mutual understanding and benefits. The commercial banks hold the much needed funds by their clients but upon certain conditions (prudential measures) been met, whilst the clients, as valued customers, need the funds from the banks but only upon satisfying laid-down conditions. These necessary conditions are the credit policies. In his view, Bullivant (2010) suggested that credit policy should start at the highest level, agreed at all levels and be inclusive of all those areas of the business operation which leads to satisfying customer requirements (see also Thompson, Jr., et al, 2005; Finlay, 2009). The credit policies are designed to govern the available credit funds, credit created or credit finance by banks. Stoop (2010), defined credit creation as the act or process of creating either: (a) the facility of being able to obtain goods or services before payment, based on trust that payment will be made in the future; or (b) an entry in an account recording a sum received.

Engaged in stock brokerage, funds management, corporate finance, business advisory services as well as in equity and economic research, is the Prudential Securities Limited, one of the two wholly owned subsidiaries of the Prudential Bank Limited (PBL). Incorporated as a private limited liability company in 1993 under the Companies Code, Act 179, the PBL has since then grown with 29 branches and 2 agencies throughout Ghana. Its other subsidiary, the PBL Properties Limited was established to acquire and develop banking premises for the bank and also to manage the auxiliary staff of the bank. Having a vision to provide both domestic and international banking services with a strategic focus on project financing and export development, the PBL is committed to play a positive and an innovative roles in the financial intermediation process and most importantly, to offer the best and the most remunerative banking services to the business community. Indeed, quality, creativity and innovation are the hallmarks of the PBL (Koomson, 2013).

Common knowledge has it that loans and advances make up the highest earning assets of commercial banks, though most risky as well, in banking operations. In view of this, whilst the temptation may persist to maximise overall earnings, it may rather be prudent always to maintain a trade-off between such earning maximisation and the maintenance of adequate liquidity levels to avert any consequent liquidity crises. In this venture, the commercial banks allege that largely, their clients do not comply with their credit policies (credit terms and conditions) and the result of which is extreme caution on their part in giving out the facilities. In contrast, the clients allege that they co-operate in this regard but rarely get the needed credit finance (in the form of loans, overdrafts, advances and so on) to support their operations due to bureaucracies emanating from excessive prudential measures by the banks. These scenarios into perspective, this study examine the existing credit policies and credit finance creation by commercial banks in Ghana using the perspectives of both staff and customers of the PBL.

SIGNIFICANCE OF THE STUDY : Efficient and reliable banking operations aid in creating a viable financial system upon which the development agenda of a country is propelled. Every sector of an economy has a relationship with these banks. They serve as a pivot and a crucial source of inter-connectivity with both domestic and foreign operations in these respects (see also, Werner, 2005). Domestically, they enhance personal, corporate and other financial management, existence and growth to a greater extent. Specifically, they help in personal and corporate capital formation and utilisation. The clients rely on banking services and in some cases, bankers’ advice, to grow financially from one level to another whilst the banks, like other businesses, solely exist for their clients. Similarly, Drucker (1974) observed that businesses have changed and are changing as a result of a focus on the customer and that a business must first be able to create a customer. However, the banks’ clients frequently require credit assistance for one reason or another in their endeavours. Practically, no business can afford to run solely on cash or equity basis at all volumes and years of operations. In his view, Mbroh (2011) noted that no business can afford to buy all the materials required for the manufacture of goods for sale with cash. In some cases they have to negotiate with suppliers for credit and in most cases, businesses succeed in procuring stock on a short-term credit basis. Somehow, the bank-clients inter-dependency hinges on the extent on cohesion attained on the crucial subject of credit policy when it comes to the provision of credit finance (see also Bullivant, 2010) . With several documented studies on the subjects of credit policy and credit creation notwithstanding, this study attempts to highlight the specific importance of the two in a bank-customer relationship. The results are not only intended to contribute to the literature on both subjects but also to create a basis for further studies to validate any possible inter-dependence of the two.

2. Objectives of the Study and Research Questions

In order to appreciate the need for commercial banks’ prudential measures (credit policies) and consequently, their credit finance creation, it would be pertinent firstly, to explain the nature and types of credit finance they offer, the necessary pre-conditions as well as the basis of the banks’ decision-making in these respects. Significantly related to these dynamics, are the respective perspectives held by the customers and their bankers on the decision-making in this regard, especially, those relating specifically to customer-understanding and response. Equally important, is how these practices consequently affect the bank-clients’ relationship regarding the provision of these facilities and their demands respectively by the parties. Also crucial is the clients’ overall assessment of the bank’s operations in these respects. Secondly, it would be helpful to identify the basis of assessing clients in terms of their credit-worthiness or basis for good credit scoring and the bank’s decision in this regard. What decision factor(s) really enhance(s) or constrain(s) this encounter? Do the credit policies inhibit creation of credit finance or otherwise? Thirdly, it is would useful to establish the crucial importance of the consequence of the relevant application of credit policies in creating the credit finance by the banks’ in a manner that either influences good or bad perceptions by their clients. What attributes are expected to enhance their mutual understanding and benefits? Again, how do customers perceive the process and timing, availability or otherwise of collaterals and related policy pre-conditions in this venture?

2.1. Literature Review

Broadly, the subject of credit management has been severally documented. For instance, Bullivant (2010) observed that credit management or credit risk management refers to systems, procedures and controls which a company has in place to ensure the efficient collection of customer payments and minimise the risk of non-payment. Indeed, it requires a sound understanding of the basics so as to: know the financial ability of customers; assess how much credit to allow; process orders quickly; and collect funds on time. Obviously, credit policy and credit finance creation are distinct aspects of credit management. However, there seem to be an inter-dependency of some sort regarding these two terms. The ‘policy’ governs how the ‘finance’ is disbursed. In other words, where there is no credit finance, there cannot be a credit policy and as a result, each does not exist in isolation but relies on the very existence of the other. What remains unknown, however, is the extent of influence on each other in this seeming relationship.

2.2. Credit Policy Defined

According to McMenamin (1999), the management of account receivables essentially begins with the decision whether to grant credit to a customer and if so, how much and on what terms. This is consequently the logical starting point for the institution of a credit policy since the credit policy includes all the company’s systems and procedures governing the determination of: credit selection; credit standards; credit terms; and the collection policy. Touching on the subject, Attom and Mbroh (2012) referred to a credit policy as the established procedure for extending credit and collecting debts owed by customers of the firm. In their view, once a firm decides to grant credit to its customers, it should establish a credit policy to effectively deal with recalcitrant debtors. On his part, Bullivant (2010) suggested that credit policy should start at the highest level, agreed at all levels and be inclusive of all those areas of the business operation which leads to satisfying customer requirements. Similarly, Finlay (2009) observed that a typical credit policy will address the following points: credit limits; credit terms; deposits; credit cards and personal checks; customer information; and documentation. In the view of Thompson Jr., et al (2005), a credit policy may be explained as the guidelines that spell out how to decide which customers are sold on open account, the exact payment terms, the limits set on outstanding balances and how to deal with the delinquent account.

2.3. Credit Finance Creation

Evidence of credit finance creation, on the other hand, traces over 5000 years back in history, when Temples had often acted as banks in the ancient Babylon (3 rd Millennium BC). Werner (2005) maintains that for many centuries, banks have served as the main creators of the money supply, with ancient Egypt, Greece and Rome using their banking systems to supply their economies with money through credit creation (see also, Schumpeter, 1&54; Haln, 1&20; and Wicksell, 1898).

2.4. Commercial Banks’ Credit Finance Creation

The banks have a standard procedure or step-by-step process for creating credit finance which differs from textbook representation of credit (see Stoop, 2010; and Werner, 2005).

2.5. The Standard Representation of Credit Creation by Banks

On the asset side of the balance sheet, banks hold reserves and loans. The liabilities consist of debt and equity. When a customer makes a deposit at a bank, it is listed as debt. The following illustrative tables (Its) explain the process.

IT 1 . Banks balance sheet .