How can peer-to-peer lending financial intermediaries help small-scale farmers and promote…
FarmfinX explains how people or public institutions can invest their reserves or surplus cashflows for social and economic needs and reap profits.
India beholds millions of smallholder farms that require capital to operate and grow crops. The most common capital requirement for an Indian farm is to cover the cost of inputs such as seeds, fertilisers, and crop protection products. Although informal credits and localised lending models currently dominate the market, digital platforms may change this scenario and help borrowers acquire loans at a nominal rate and help repay them. Assurance of the repayment can pave the way for investors to make timely profits and earn interest.
Farmers deal with two types of expenditures: 1. the retailer who sells them the product for cultivation; and 2. the trader who will buy their crop at the end of the season. These are the two most pressing scenarios that a farmer generally goes through.
For banks, the smallholder farmer segment has remained hard to reach.
This leaves farmers with a few options, like getting informal credit from village level lenders. Generally, village-level lenders have an advantage over banks as they have insight into the farmer and the crop. They do not ask for credit ratings or other validations as they know the farmers.
These advantages reflect higher interest rates and an inherently higher level of financial risk.
With recent technological advancements, we have seen people tackle many such problems. We do think that we can solve this issue by leveraging a range of digital solutions that are emerging to solve one or more of these challenges.
Rapid growth in P2P lending solutions is witnessing double-digit growth annually. At the forefront of this digital transformation are the peer-to-peer (P2P) lending platforms. P2P platforms allow urban professionals to tap into the high-interest rate market for loans to farmers in rural areas. The motivations of urban lenders vary from seeking a higher return than other investments to philanthropic activities to help farmers succeed. Investments are typically small, but lenders often provide loans to dozens of farmers.
The loans we are talking about are the ones that are typically made at the start of the cropping season and repaid a few months later. Urban or institutional lenders can use this as an ideal investment opportunity.
However, the pool of potential lenders in a P2P model is limited compared to the size of the market. As a result, P2P lending platforms are changing over time, packaging up portfolios of loans from their platform to be securitized at scale by financial institutions. At this point, digital lending to smallholders is likely to expand much more rapidly. Right now, the P2P model allows the platforms to continue to improve their acquisition processes and credit rating algorithms. Once these capabilities are developed and deployed, they will unlock portfolio investments and accelerate growth.
P2P Working principle
The P2P lending model is quite simple. The platform matches a farmer with a lender and charges the farmer a higher rate than the lender. On a loan size of 100,000 rupees per year, a platform can earn 6,000 rupees based on a 5% interest rate markup. Platforms like this should work on accurate rating modelling to ensure the margins and mitigate bad loan decisions.
To reach scale and move from being a peer lender to an institutional lender, we at FarmfinX want to work on a securitisation model. Here we want to address two key challenges.
- The regulatory environment for P2P is uncertain, and the unscrupulous practices of one or two lenders could put the whole industry in jeopardy.
- Pricing interest rates, loans, and securing every transaction can take years to gather enough data to price accurately.
ESG investing — To promote sustainability
Environmental, Social and Governance investing (ESG) works by evaluating how green or ethical an investment is by considering various factors:
- Environmental: How will the investment directly impact climate change, deforestation, or pollution?
- Social: Does the investment prop up dubious practices like child labour or ruin local economies?
- Governance: Is the investment going to a company with questionable ethics, a lack of transparency, or promoting a monopoly?
P2P lending or crowdlending solutions can help address all five limitations that we identified:
- The cost of acquisition
- Farm analytics and data collection
- Validating the KYC with minimal cost
- Less paperwork
To tackle the problems, we are working on an AI model that helps us identify crop health and assign a rating to the farm based on fertiliser usage, geolocation, image sensing, and microclimatic conditions.
As of now, we have worked on multiple data sets provided by the organising team.
- Normalized Difference Vegetation Index (NDVI)
- Active Fire Data
- Telangana Weather Data
- Soil Moisture
We have performed multiple tests, and after thorough analysis, we came across a few interesting insights, like how NDVI is dependent on rain and a temperature difference. However, the other parameters turned out to be completely independent of each other. This can be clearly noticed in the Biplot.
Later, we decided to run a multi-regression model using weather and NDVI datasets for further analysis and reported the scores in an Anova table for comparison. This comparison has led us to realise that the NDVI index is not prominent for analysing crop health. We also came across, a few more interesting indices that can help us attain better quality parameters for designing a robust model for attaining accuracy for the farmer rating, crop health analysis and promoting sustainability.
We believe that the goal of crowdlending/P2P is to solve such financial gaps, we already see it happening in Tech, real estate and development sectors. The main reasons behind the lack of funding are the high bureaucracy of banks, weak financial reporting systems of the farmers and a lack of innovative, flexible lending products at affordable rates.
Notes: For any further queries or in need of the code for the above analysis, please feel free to request us at [email protected]
Samruddha and Nikita Mishra