According to the RBA, the BNPL operator interposes itself into the plumbing between the merchant and its bank, and between the customer and their bank. The BNPL operator draws on funds from its own bank account to pay the merchant immediately via a transfer into the merchant’s bank account. When the customer makes the deferred payments to the BNPL operator, funds are transferred from the customer’s bank account to the BNPL operator’s bank account.
Since interposing that additional layer involves some additional costs, why has the BNPL model proven successful to-date? The simple answer is BNPL is a new, different, product, attractive to consumers, that banks weren’t offering, enabling additional middleman costs to be offset.
(That offset was primarily via the significant merchant charges which merchants agree to in the hope of attracting or retaining customers wanting BNPL facilities).
However, as we have already seen, banks are responding by offering similar products which essentially cut out the need for the middleman. No-interest credit cards, with monthly fees only if the card is used in, or not paid off at the end of, that month have already appeared.
So do BNPL operators have some other competitive advantage that might see them survive when banks offer virtually equivalent products?
Flash marketing and mobile apps have given them initial appeal, particularly to younger customers. But whether there is any customer loyalty that can’t be offset by the banks is another matter.
Another possibility is BNPL operators may be better able to assess and minimise possible losses from customer defaults than the banks. At the moment, they are able to economise on customer credit assessment. This is because BNPL is, inappropriately, not legislated as provision of credit.
BNPL operators escape the responsible lending obligations (RLOs) and other requirements of the National Consumer Credit Protection legislation.
Despite the current government wanting to remove RLOs, it seems unlikely that any such advantage – which consumer advocates argue puts vulnerable consumers at risk – will persist for long.
The most likely scenario for initially successful BNPL operators is eventual acquisition by a bank or other important participants in the payments system who find acquiring new customers and using product design and technology from the BNPL operator attractive. The acquisition of Afterpay by Square is one such example of this scenario.
BNPL operators have essentially done the financial sector and its customers a service by incentivising banks to consider and offer different financial products and services. But like in many other cases, the innovators may shine briefly until their reward comes from being “swallowed” by the large incumbents.
Kevin Davis is Emeritus Professor of Finance for The University of Melbourne