A useful law, much quoted, usually without attribution, is Roy Amara’s observation that we tend to overestimate the effect of a technology in the short run and underestimate the effect in the long run. When peer-to-peer technology emerged in the form of file-sharing, many of us were guilty of suggesting that this would rapidly invade many fields beyond music distribution and shake up significant industries such as – and in particular – financial services, through the classic cyber-mechanism of disintermediation.
But early pure peer-to-peer technologies for payment such as Mondex e-cash failed, although hybrid solutions such as Paypal – a kludge-y but effect- ive extension of the existing debit/credit transaction processing networks – succeeded. Now, seven years post-Napster, the fundamental idea of peer-to-peer financial transactions is starting to take hold. Zopa, a British start-up, has set up a peer-to-peer mechanism where people can lend money directly to others who want to borrow money, without the intervention of a bank.
The way it works is borrowers are aggregated into pools with similar levels of risk, and lenders advance money for use by these different pools. This is highly subversive for banks. The only reason they can charge a premium for payment processing is that they carry the risk of non-payment; the only reason they can charge a spread between borrowing and lending rates is that this compensates them for carrying the risk of loan default. Peer-to-peer payment systems like Mondex, carried out in real-time, removed the risk of non-payment. Now Zopa is passing the risk of loan default directly to the lender. As this kind of market matures we will no doubt see the emergence of new insurance mechanisms to manage this risk.
About 800,000 people download videos every day, on Youtube. But the real story of video download is that MySpace, the social networking site, is by far the leading source of video downloads – roughly twice as many as Youtube. But these are, in a sense, peer-to-peer file-sharing, since most of the downloaded videos are associated with a particular small group of friends. MySpace is a phenomenon with lessons for almost all industries. Its relevance in the context of a discussion about peer-to-peer lending is that Zopa can, and does, harness a similar power. If both lenders and borrowers post profiles of themselves an element of social suasion is introduced. The combination of a real reduction in transaction costs that peer-to-peer lending provides, coupled with the powerful effects of social networking, may just be the key to making Roy Amara’s prediction come true.