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Who actually pays with buy now, pay later companies like Klarna and Affirm


If you've done any online shopping recently, you may have seen an option that would allow you to pay a little bit now and the rest later, interest free. Buy now, pay later companies have exploded in popularity during the pandemic. Klarna, Afterpay and Affirm are just a few of them. Now Apple is getting into the game with Pay Later. So what's behind this trend, how does it work and who's actually paying? For that, we've called Planet Money's Alexi Horowitz-Ghazi. He looked into buy now, pay later services in a recent Planet Money episode. Alexi, welcome.

ALEXI HOROWITZ-GHAZI, BYLINE: Thank you for having me.

THOMPSON: So buy now, pay later sounds simple, but is it? Can you walk us through how these services work?

HOROWITZ-GHAZI: Sure. So buy now, pay later is a form of consumer credit - like credit cards or payday loans or other things we've seen - but it's in kind of a new form. So the way this works is you'll be shopping online or, increasingly, in more and more stores IRL, and instead of paying the total price with a credit card or a debit card or something, you'll be offered a buy now, pay later option. Usually it's this pay-in-four model, which means they'll ask for installment payments. You'll pay the first installment immediately using, you know, whatever bank account or credit or debit card you wish. They'll take that initial payment, and then you'll pay them back in regular installments. And it's all interest-free. It works kind of like old-fashioned layaway, except with buy now, pay later, you get whatever it is you're buying immediately.

THOMPSON: So how are the companies making money on this if there's no interest? Somebody's getting paid.

HOROWITZ-GHAZI: Right. So usually, lending money is profitable because of some combination of interest and fees or maybe collateral. There isn't collateral with these things. They're not going to, like, repossess your Nike sneakers and try to resell them to recoup, you know, your missed payments or anything. And there isn't any interest, as you mentioned. And the fees, while there are late fees and there are kind of forms of interest that kick in if you repeatedly don't pay, the fees really aren't that high. And that isn't kind of the center of the business model. The way these companies are making their money is they're actually taking fees from the merchants - so the companies that are selling you the goods you're buying online or in person. And they're charging somewhere between 4 and 9.5%, which can be a lot higher than what credit cards usually charge, which is between 2 and 4%.

THOMPSON: If the merchant has to pay these fees, are the merchants then passing those fees along to the consumer through higher prices?

HOROWITZ-GHAZI: Presumably, that is happening to some degree, but it's still kind of early days for this model. And for the most part, it seems like the model actually works for everybody involved because what the buy now, pay later companies are offering these merchants is the promise of a lot more sales. So they're bringing in a bunch of new customers, people who might not have used credit cards or who might be kind of allergic to the idea of using credit at all - so like, a lot of Zoomers and millennials who grew up in the wake of the financial crisis and just don't want to use credit cards - and people who, you know, might have thin credit histories or bad credit and might not otherwise get access to things like credit cards and other forms of loans. So they're bringing in new people, and then also, there's something about the psychology of kind of breaking down the total price into these installment - into these smaller installment prices that make people a little less hesitant to complete their order - you know, to click buy when they're at the end of their purchase, when they're in the checkout.

THOMPSON: So you know the old adage - right? - that if it sounds too good to be true, it probably is. Where can this go wrong for the consumer?

HOROWITZ-GHAZI: Right. So, you know, it is - these payments are interest free, which means it can be pretty cheap money, you know, if you live up to all the terms and conditions of the loans. The problem with these is kind of the flip side of being outside of the normal credit-reporting system. It means it's easier to get these buy now, pay later loans in the beginning. But it also means that each of these loans is not being reported to any sort of central repository, which means that you can take out, you know, five or six different loans from five or six different companies without any of them knowing about it. It means you can get into this whole whirlwind of payments and get into trouble pretty quickly.

And this is one of the things that's raised red flags for, you know, consumer advocate groups and regulators. Last fall, the Congressional House Financial Services Committee held a hearing looking into all of this. And right now, the Consumer Financial Protection Bureau has an open inquiry into the buy now, pay later industry. They're looking at the risk to consumers of overextending themselves, what kinds of data are being gathered by these companies and how it's being used and how these services fit into existing regulations for other kinds of credit products.

THOMPSON: Why do you think, Alexi, that this practice has taken off during the pandemic?

HOROWITZ-GHAZI: Well, buy now, pay later companies started out in places like Australia and Scandinavia, and they've been kind of growing momentum over the years. They came to the U.S. largely around 2015, and they kind of were at this, like, critical mass moment just as the pandemic started. They were starting to be taken up by larger and larger companies, eventually places like Amazon and Walmart and Target, which exposed them to a lot more people. And this happened just as a lot of lockdowns were happening, and a lot of people were turning to the internet and online shopping as a form of retail therapy or just a place to find basic essentials as they scrambled to figure out how to work from home. And it kind of rode this huge explosion in online shopping that's happened over the years since the pandemic started. It just became a new, ever-more-convenient way for people to do their online shopping.

THOMPSON: So sort of an accidental explosion.

HOROWITZ-GHAZI: Yeah. I'd say it was good timing and a lot of kind of business strategies coming to a head right at the right moment.

THOMPSON: That was Alexi Horowitz-Ghazi, host and reporter for NPR's Planet Money. Thanks, Alexi.


(SOUNDBITE OF CHARLES MINGUS' "MOANIN'") Transcript provided by NPR, Copyright NPR.

Alexi Horowitz-Ghazi is a host and reporter for Planet Money, telling stories that creatively explore and explain the workings of the global economy. He's a sucker for a good supply chain mystery — from toilet paper to foster puppies to specialty pastas. He's drawn to tales of unintended consequences, like the time a well-intentioned chemistry professor unwittingly helped unleash a global market for synthetic drugs, or what happened when the U.S. Patent Office started granting patents on human genes. And he's always on the lookout for economic principles at work in unexpected places, like the tactics comedians use to protect their intellectual property (a.k.a. jokes).