> So how do they make money?

Generally the logic on "free" financing by the seller is that without it, they may have not made a sale at all. Sure it cuts into their margins, but offering rebates would have had a similar effect.

Klarna probably still charges the vendor a few bucks for handling the thing.

They make money because they know that if you need to use Klarna to finance a €300 purchase you are very likely to default on the loan and pay interest.