It's hard enough for central bankers and Wall Street traders to make sense of the post-pandemic economy with the data available to them. At Wells Fargo & Co., senior economist Tim Quinlan is particularly spooked by the “phantom debt” that he can't see. That specter lurks behind buzzy “Buy Now, Pay Later” platforms, which allow consumers to split purchases into smaller installments. The major companies that provide these so called “pay in four” products, such as Affirm Holdings Inc., Klarna Bank AB and Block Inc.’s Afterpay, don’t report those loans to credit agencies. Consumer spending in the world’s largest economy has been so resilient in the face of stubbornly high inflation that economists and traders have had to repeatedly rip up their forecasts for slowing growth and interest-rate cuts. Still, cracks are starting to form. First it was Americans falling behind on auto loans. Then credit-card delinquency rates reached the highest since at least 2012, with the share of debts 30, 60 and 90 days late all on the upswing.
There are signs that consumers are struggling to afford their BNPL debt, too. A recent survey conducted for Bloomberg News by Harris Poll found that 43% of those who owe money to BNPL services said they were behind on payments, while 28% said they were delinquent on other debt because of spending on the platforms.
For Quinlan, a major concern is that economic experts are being “lulled into complacency about where consumers are.”
“People need to be more awake to the risk of BNPL,” he said in an interview.
Blame Game
BNPL is a black box largely because of a longstanding blame game among BNPL providers and the three major credit bureaus: TransUnion, Experian PLC and Equifax Inc. The BNPL companies don’t provide data on their installment loans that are split into four payments, which were used by online shoppers to spend an estimated $19.2 billion in the first quarter, according to Adobe Analytics, up 12.3% compared with the same period last year.
The BNPL behemoths say credit agencies can’t handle their information — and that releasing it could harm customers’ credit scores, which are key to securing mortgages and other loans. The big three bureaus say they're ready, while two of the major credit scoring firms, VantageScore Solutions and Fair Isaac Corp. (FICO), say they're equipped to test how the products will affect their figures. Meanwhile, regulation is looming over the industry, but this stalemate has left the status quo mostly in place.
There have been signs of progress. Apple Inc. earlier this year became the first major BNPL provider to furnish transaction and payment data to Experian. As of now, it provides a snapshot of consumers’ overall debt load from Apple Pay Later transactions, but the information won’t be used for consumer credit scores.
In separate statements to Bloomberg, Klarna, Affirm and Block said they want assurance that consumers’ credit scores and their data would be protected before reporting customer information. Representatives for TransUnion, Experian and Equifax said they’ve updated their structures and the data would be secure.
All the while, the lack of transparency has researchers at the Federal Reserve Bank of New York, which publishes a comprehensive quarterly report on the $17.5 trillion in US household debt, convinced they’re missing some of what’s happening in the economy.
“They’ve reached a certain scale that they could impact economists’ assumptions about their economic outlooks," said Simon Khalaf, Chief Executive Officer of Marqeta Inc., a firm that helps BNPL providers process their payments.
Hiding Consumer Distress
The Harris Poll survey, conducted last month, provides some crucial clues about how Americans use BNPL. For one, splitting payments into smaller chunks encourages more spending.
More than half of respondents who use BNPL said it allowed them to purchase more than they could afford, while nearly a quarter agreed with the statement that their BNPL spending was “out of control.” Harris also found that 23% of users said they couldn’t afford the majority of what they bought without splitting payments, while more than a third turned to the services after maxing out credit cards.
The findings also show that the spending, which for more than a third of users has exceeded $1,000, isn’t entirely on big-ticket items. Almost half of those using BNPL say they've started, or have considered, using it to pay bills or buy essential items, including groceries.
So far, the small pockets of consumer distress that have emerged in the US have been chalked up to a bifurcated economy where working class Americans struggle to make ends meet. But the survey found that middle-class households are relying on BNPL, too.
About 42% of those with household income of more than $100,000 report being behind or delinquent on BNPL payments.
“BNPL essentially lets people dig a deeper and deeper hole of credit, which will be harder and harder to climb out of,” said Ed deHaan, a professor of accounting at Stanford Graduate School of Business, adding that it happens “more easily when there’s no transparency.”
How it Works
The option to pay in installments using short-term loans has been around for several years, but exploded in popularity during the pandemic, especially with younger, digitally savvy consumers who gravitated to the services as an alternative to credit cards. The pioneering BNPL companies, including Afterpay, Klarna and Affirm, launched with trendy retailers, partnered with social media influencers and became a common option on apps and online checkouts.
BNPL offers quick credit approvals and lets consumers pay in installments. The first is usually due right away, and the others are often collected once every two weeks for the popular “pay in four” loans. There’s typically no interest or fees, as long as payments are made on time. Like credit card companies, BNPL firms make money on fees from merchants — and some have steep penalties for missed payments.
The rapid adoption of the products has enticed major financial institutions to offer the option to split payments, even as regulators warn them of the risks. That includes PayPal Holdings Inc., U.S. Bancorp and Citizens Financial Group Inc. Even big banks like Citigroup Inc. and JPMorgan Chase & Co. have similar capabilities on their credit cards.
The industry has branded itself a financial equalizer. They argue that “soft-credit checks” — when a lender runs a consumer’s credit history without affecting their score — expand credit access to those underserved by traditional lenders, while zero-interest provides a better deal than many cards.
Affirm said its customers have an average outstanding balance of $641, while Afterpay and Klarna put the figure at $250 and $150, respectively. The average credit card balance was $6,501 in the third quarter of 2023, according to Experian data. To read more click here.