GlobalData Plc

Federal Reserve warns over alternative credit scoring data

The Federal Reserve has raised concerns about the growing use of non-traditional and non-structured data to assess the creditworthiness of loan applicants. In trying to widen the availability of credit to underserved sections of the population, fintech providers may inadvertently be entrenching discrimination.

The Federal Reserve has raised concerns about the growing use of non-traditional and non-structured data to assess the creditworthiness of loan applicants. In trying to widen the availability of credit to underserved sections of the population, fintech providers may inadvertently be entrenching discrimination.

A growing number of fintech providers are using alternative data, sourced, for example, from social media and online behavior, to create risk profiles for consumers not currently catered for, such as the unbanked. Several minority groups have significantly lower than average credit scores, and consequently have reduced access to credit.

However, the Federal Reserve, while acknowledging the role of fintech in extending access to credit to previously excluded consumers, has raised concerns that alternative credit scoring criteria may be related to characteristics that are covered by fair lending laws. Furthermore, it is frequently unclear precisely what data is being used to assess creditworthiness.

This lack of transparency may lead to consumer detriment, with potential borrowers unaware of how aspects of their behavior, such as the content of their social media updates, may affect their credit scores.

Inevitably, this form of credit provision will increasingly come under the regulatory spotlight as its use becomes more widespread. Although alternative credit scoring has the potential to improve consumer outcomes, it also carries the risk of facilitating irresponsible lending. The regulators therefore have a challenging job over the next few years: they have to prevent excessive risk from building up while not being so restrictive that beneficial innovation is stifled.

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