Damon Gibbons, Debt on our Doorstep London
(Ltg., Plenum Fr. 10:00 - 11:15
Predatory Lending (Wucherkredite) - ein neudeutsches Problem?) |
Predatory Lending in the U.K
Introduction
The U.K today appears to suffer from the worst levels of financial exclusion, whilst at the same time provides the lowest levels of protection against predatory lending than other major European economies. That the levels of financial exclusion and predatory lending are intrinsically bound together may not come as a surprise for many German practitioners and policy makers in this field. However, in the U.K, the Government appears to be convinced that increased liberalisation of the credit market – and consequently low levels of protection for consumers – is the answer to the problem of financial exclusion and not, as we in Debt on our Doorstep have been arguing, part of its cause.
Predatory Lending
It may be helpful to give an indication of what we in the U.K mean by the term ‘predatory lending’. I understand that this term is not in common use in other European countries at this time.
Certainly, the term has links to ‘usury’, by which Debt on our Doorstep means the exploitation of borrowers through high interest and other charges. In fact, we go a little further than that definition, and indicate that a usurious agreement is one that has no ‘benefit’ for the borrower in the long term because of its price terms. ‘Usury’ exploits borrowers because it takes advantage of their great need for immediate revenue and puts them in a position where they pay such a high price for this that they cannot, through any productive allocation of the loan, ever profit from the agreement.
I won’t go into details over the issues of ‘productive’ lending, as Professor Reifner has written on this matter and we are in agreement with his view on that. However, we point out that in the U.K today there is a large amount of unproductive lending to people on low incomes as a direct result of both the inadequacy of social security systems, and the lack of a duty for mainstream lenders to provide access to finance. As a result, nearly three million people in the U.K use credit provided by ‘door to door’ lenders, which sell credit and collect repayments in the borrowers home. Rates of interest for those loans range from 177% APR to 450%APR. At the lower level of that range therefore a borrower pays back £850 on a £500 loan over a 55 week period. Of course, many of those loans can only be paid back by taking out further borrowing - causing interest to be charged on interest, and so a spiral of increasing debt starts to emerge.
But ‘predatory lending’ is about more than just usurious rates of interest. It points to irresponsibility in lending, to asset stripping, and to deliberate obfuscation of loan terms and obligations. This is a short paper, so we can only provide a few simple examples.
The credit card market in the U.K, as the Government constantly informs us, is one of the most well developed in Europe. By well developed they mean that UK citizens have access to greater numbers of credit cards than ever before. This is true, but it comes as a result of irresponsible lending practices. The UK credit card market is characterised by poor levels of data sharing amongst lenders and coincides with increased marketing of promotional 0% offers to encourage borrowers to transfer balances from competitor cards. But when a transfer is made, the borrower then has two credit cards with two credit limits. Do it a third time and they have a third credit limit and so on. The result is the inexorable growth of the amount of available credit – largely unrelated to the borrowers ability to repay. This has resulted in a number of reported suicides related to debt. In the last year, 3 men took their lives with each owing an average of £100,000 and having up to 19 credit cards each.
I mentioned asset stripping. The U.K has witnessed a significant growth in secured sub-prime lending to enable house purchases by low-income groups. Genuine sub-prime lending where price reflects risk and is reasonable based on income is not a problem. However, a number of these loans have been made irresponsibly to former social housing tenants with rent arrears, and have not been sustainable. Many also contain hidden charges and default leads to escalation of these and to repossession. In the recently publicised Meadows case in the U.K, this practice of ballooning charges was challenged as ‘extortionate credit’, but that argument as to whether or not such a practice was extortionate, was not settled by the courts as the borrowers won the case on a technicality of the loan agreements not being in the proper form.
Thirdly, there has been a shift towards opaque forms of charging. A typical example is default charges. The principle that lenders should not recover more through default charges than they have incurred in costs is upheld in law, yet for years many lenders have been doing so, and they make significant levels of profit from this practice. The Office of Fair Trading has recently investigated major lenders, but the practice is often worse amongst sub-prime or ‘alternative’ lenders. Whether or not the Office of Fair Trading will stand firm for consumers in this instance will say a lot about the relationship between our regulator and the industry and the current balance of power that exists there.
Financial Exclusion and Predatory Lending
Financial exclusion in the U.K, according to recent studies, affects one in twelve of the population. These are people who have no access to mainstream financial facilities, including bank accounts. The lack of a bank account with the ability to make payments by direct debit (for example for utilities) leads to higher costs for the consumer as they are forced to use more expensive payment methods.
The response of the Government to this problem has been to put pressure on the banks to offer a form of ‘basic’ bank account. This provides access to direct debit facilities but does not offer overdraft credit. Overdraft credit is one of the cheapest forms of borrowing in the U.K, and it is unavailable to those on the lowest incomes.
However, many banks have not marketed the availability of basic bank accounts, because they see no profit in doing so. Nor have the banks been given an obligation to progress people from basic bank accounts to accounts that offer overdrafts. Monitoring of this situation is now the job of a new Financial Inclusion Taskforce, but it has now powers to order improvements and no regulatory function. Instead, the Banking Code Standards Ombudsman can carry out individual investigations, although this will not release information about individual banks performance to the public. It is hard to imagine a more confused and ineffective mechanism being set up to address this issue.
So there is no universal banking obligation or statutory responsibility on banks to provide access to bank accounts or to cheap credit facilities based on overdrafts. As a result of this, there have developed a huge variety of lenders that target low-income households with credit products – but at hugely expensive rates of interest and using other predatory practices. Imports from the U.S – such as payday lending – have found fertile ground in the U.K and it seems that there is an inexhaustible supply of ideas to create rip-off credit products.
But if there are increasing numbers of lenders serving the poor, then why doesn’t the market result in fair outcomes? Price competition amongst credit lenders to low-income borrowers is, of course extremely limited, as many borrowers are eager to obtain credit for essential household items or to pay for weekly ongoing revenue needs. They take whatever they can get – and lenders are prepared to exploit this. This is the classic circumstance in which usury as we defined it earlier can occur.
The Government is under pressure to act, but appears captive to the industry. It has resisted calls for interest rate ceilings in those parts of the market that are not price competitive, although we have been successful in referring the door to door lenders to the Competition Commission which is investigating that particular sub-market. They are due to report in March.
The Government has earmarked £120 million for investment in credit unions and other community financial institutions, but this is an incredibly small figure compared to a sub-prime market worth some £12 billion per annum.
So if the Government neither places a duty on banks to lend, nor controls for the cost of credit at the other end, how then does it wish to address financial exclusion and its impacts at all?
Well, it argues that access to credit is a fundamental part of financial inclusion, but it means access to credit at any price. It states that providing credit requires lenders to take account of, and price for, risk. Therefore, in order to ensure access to credit, lenders must be free to set prices that reflect that risk and for low-income borrowers these will necessarily be high. If prices were limited through interest rate ceilings then this would discourage lending to people on low incomes and would increase financial exclusion.
If we are to succeed in addressing financial exclusion in the U.K, then we first have to win the argument that credit at any price to people on low-incomes is not the same as inclusion. It is ‘usury’ and results in severe social consequences and costs. What we need is credit at a fair price and the best way of achieving that is not to encourage a burgeoning market of door to door lenders, payday cashers, downtown retail credit dealers, pawnshops, and all of the other, but to provide a duty on banks to give access to accounts with overdraft credit as the main vehicle for borrowing.
If the term ‘predatory lending’ is new to Germany, I hope that this paper indicates that some of the answers to it are already familiar to you. We must work to keep it that way around and I wish your conference well in that aim. |
| ID: |
36838 |
| Author(s): |
iff |
| Publication date: |
07/02/06 |
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Created: 14/02/06. Last changed: 14/02/06.
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