When it comes to getting a loan—even for those without a credit history—it helps to have financially responsible friends on one’s social network, according to a new study forthcoming in the INFORMS journal Marketing Science.
The study titled, “Credit Scoring with Social Network Data,” analyzes new social credit scoring techniques and finds that it helps to have financially responsible friends on your social network to get a loan. They don’t even have to co-sign. More importantly, social network data increases credit availability to society as a whole.
The study was conducted by Yanhao Wei, Pinar Yildirim, Christophe Van den Bulte of University of Pennsylvania and Chris Dellarocas of Boston University.
Hundreds of millions of people around the world, in poor and developing countries, lack access to credit due to absent or inadequate credit histories—credit that that could help in starting a business, pay for an education, or buy a home. Even in the United States and Germany, lack of access to credit is a problem for millions of poor people. Could social network data hold the keys to enable them to access the credit they need?
The authors investigate the recent practice of startups using friend network data from social networks such as Facebook, Twitter, and LinkedIn to screen for credit risk. The basic insight is simple: If Jane’s friends or family are financially responsible and have a low default risk, Jane is likely to have a low default risk too. Lenders can use this insight to improve screening accuracy. Thus, social data help expand credit access and credit to borrowers.
The authors explore the question further: If Jane knows that her credit scores will be affected by the “financial quality” of her Facebook friends or Twitter followers, she would not accept deadbeat friend requests, but also reduce online friendships with individuals of lower socioeconomic status. Online friendships, therefore, become more socioeconomically homogeneous and social credit scores become better predictors of true credit risk and improve credit availability.
A side benefit is that it can incentivize everyone in a community to become more financially responsible. “If my financial behavior affects the credit prospects of my friends,” says Dellarocas, “then there will be a lot of pressure on me to behave responsibly and not risk losing friendships.” In closely-knit communities, where individuals maintain lots of social ties, the benefits can be potentially strong.
The authors are careful to note potential problems with social credit scoring. Yildirim cautions that “it is unclear how large the increased online socioeconomic segregation would be and whether the social cost will be low relative to the credit benefits.” And for those who currently have credit, social credit scoring introduces a new risk because they have no control of their social network’s financial behavior.
A financially responsible Jane would now have to worry about what would happen to her credit if a friend filed for bankruptcy. The problem could be worse if Jane was poor as she is more likely to have more deadbeat friends. But the authors note that it is possible to weigh Jane’s actions more heavily in the credit score relative to those of her friends in the network to minimize the problem.
The authors cautiously conclude that if appropriately regulated, the benefits from better credit access (especially for the poor) should outweigh the potential risks of socioeconomic segregation and discrimination in the credit market.
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