When credit reporting meets decentralization — is it time for the people to take control of their credit?
The 2008 financial crisis effectively destroyed consumer confidence in financial service providers. Despite the U.S.’s economic bounce back, consumer confidence remains low and is actually dropping. A 2016 study by NARPP showed that 8% of consumers trust financial service providers — down from 13% in 2015. Also in 2016, Gallup reported that 27% of Americans had confidence in banks. To put it simply, a majority of consumers do not trust financial service providers.
It’s no surprise as to why consumers distrust financial service providers. Their primary role is to protect the data and financial assets of their customers. Yet, many fail to do just that. Take the credit reporting industry. In 2017, hackers stole the consumer credit data of close to 145 million consumers from Equifax — that’s over half the number of U.S. citizens over the age of 18.
As with many industries, disappointment and displeasure breed innovation. What came out of the 2008 financial crisis was Bitcoin. What followed Bitcoin was a Cambrian Explosion of decentralized networks, each seemingly a reaction to the failings of the old industry guards. When Equifax got hacked in 2017, Bloom — a decentralized credit scoring platform — entered the scene with consumers signing up to the platform in record numbers. Will decentralization be the answer to the financial industry’s woes? Has decentralization brought forth a financial revolution or will just it just become a tool that improves — rather than disrupts — the status quo? Let’s explore.
A financial revolution?
“It is well enough that people of the nation do not understand our banking and monetary system, for if they did, I believe there would be a revolution before tomorrow morning.” - Henry Ford
A typical consumer does not understand the inner workings of the centralized financial industry much less a decentralized one. In order to understand the benefits of decentralization, we must understand the issues of centralization. Specifically, we will focus on the credit reporting sector.
- Central Points of Failure: Central institutions are prone to hacks which could cause great personal harm. The Facebook-Cambridge Analytica data breach may not necessarily put any person’s livelihood at risk; however, the Equifax hack exposed the names, Social Security numbers, credit card numbers, and personal documents of more than half of all U.S. adults. One hack of one institution exposed the data for nearly 150 million — when the honeypot is filled with honey the hackers come out to eat.
- Censorship and Forced Engagement: Centralized financial service providers are gatekeepers. They can shut down the account of any individual just as easily as they opened it. This issue becomes glaringly obvious when taken to the extremes. China’s recent experiment with a national credit score shows the full force of how centralized institutions could financially censor consumers. Under its national credit score, Chinese citizens with low credit scores can be banned from getting jobs and are at risk of being denied housing loans.
- Opacity: Like many centralized and therefore “closed” industries, financial service providers tend to avoid transparency. Credit reporting agencies have a history of being opaque in their reporting process. Credit reporting agencies have lied to consumers about what credit scores are being sold and have made countless errors when creating reports. This process has left “tens of millions” of Americans without credit in addition to millions more with scores low enough to hinder them from access to financial services.
- Rent Collection: While the financial service industry is competitive, there are different branches of the industry, such as credit reporting, that are oligopolistic. An oligopoly gives credit reporting agencies close to full control over what they do with an individual’s data, disincentivizing them from providing value to consumers. In fact, because credit reporting agencies generate a majority of their revenue from selling a consumer’s data, they are not obligated to protect the data of consumers. If consumers attempt to limit access to their data from third-party providers by freezing their credit scores, they are forced by agencies to pay an annual fee.
How can decentralization help?
“It will take time for the idea of decentralized trust through computation to become a part of mainstream consciousness, and until then, the idea creates cognitive dissonance for those accustomed to centralized trust systems.” - Andreas Antonopoulos, author of Mastering Bitcoin and The Internet of Money
It’s obvious that centralized financial services have problems, but how do decentralized services solve them?
- Central Points of Failure → Distributed Nodes: Instead of centralizing a database of financial information and data, decentralized platforms have no single access point. A hacker can not target Bloom in search of data because there are no single points of entry. This is because data on Bloom is cryptographically secured across a decentralized network of servers.
- Censorship → Uncensorable: Open decentralized platforms are by their very nature uncensorable and open to adoption. On Bloom, anyone can join the platform despite a lack of financial history data. Bloom instead enables individuals to vouch on the creditworthiness of their peers by staking Bloom’s native crypto asset — letting people to put their money where their mouth is.
- Opacity → Transparency: In theory, decentralized platforms are developed in a way that provides full transparency into their inner workings. For example, Bloom, a decentralized credit reporting platform, has fully written out the formulas for calculating credit scores on its platform in its white paper. Transparent scoring in turn enables users to better manage and track their profiles, ensuring that no mistakes are made that could damage their credit.
- Rent Collection → Fee distribution: Decentralized platforms do not need to look after their bottom line because there are no for-profit entities that require revenue. Credit Reporters on Bloom, or “Attesters”, have to actively compete for the business of users on the platform. Attesters are “hired” by lenders on Bloom to evaluate the credit risk of borrowers. Because Attesters can be easily replaced if they perform poorly or charge too much, fees are kept at competitive rates that reflect the value of the service provided.
Are decentralized platforms really replacing centralized financial services?
Decentralization will not replace centralization overnight nor is it a sure bet to replace centralization. We’re already seeing the latter with two major platforms in the space. Both Bloom and OmiseGo — a decentralized banking platform — rely heavily on traditional financial partners to launch their platforms. In Bloom’s whitepaper, it states:
“Private companies like credit bureaus and governments currently hold the majority of identity data that exists in the world. These organizations play a critical role in helping onboard users onto the BloomID system by attesting to the authenticity of user-submitted data.”
Or take OmiseGo –its roadmap has shown that it is actively attempting to grow the OmiseGO network through “community engagement and… strategic partnerships with global finance players…”
With this reliance on the old gatekeepers to help jump-start decentralized networks, it makes one wonder if it is possible to completely detach ourselves from an industry as old as money itself.