FCA aims on affordable lending nigh on impossible
There has been much written and debated lately about how to properly regulate the high-cost short-term credit (HCSTC) sector.
This sector includes payday lending, along with other high-cost lending such as rent-to-own, home credit and catalogue credit, as well as costly bank overdrafts.
In its 2018-19 Business plan published on April 9, the Financial Conduct Authority (FCA) stated that for low-income, high-risk consumers, borrowing remains expensive and the consequences can create harm for consumers, and the FCA reaffirmed its commitment to look at solutions designed to increase the choice and availability of alternatives to high-cost credit.
The FCA already has stepped in to regulate the payday lending sector, seeking to find the appropriate balance between ensuring access to credit remains and protecting customers from unaffordable loans.
The approach it took was to institute certain price caps and require firms to go through an extensive authorisation process, which included examining their affordability standards and methods for ensuring customers were treated fairly.
As a result of this process, we’ve seen both prices for loans and customers’ default rates drop significantly. We’ve also seen the overall market serving this segment of borrowers shrink considerably – a necessary outcome of the caps, although the FCA has acknowledged that it must be very careful not to cause too much constriction in the marketplace, which would do real harm to consumers.
One of the areas the FCA now is looking at is whether there is a way to create even more affordable loans to meet the needs of higher-risk borrowers. Clearly, the myth that there are low-cost credit products that can be provided to low-income, high-risk consumers continues to be perpetuated, but no actual solutions with any scalability (at least without the need for huge subsidies) have been devised, except on a very small local scale.
There are two fundamentals truths: low-cost credit requires subsidy, and often the borrowers do not repay since they see such schemes as free money. These lessons are ones the FCA should remember as it moves forward with its plans to look at solutions designed to increase the choice and availability of alternatives to high-cost credit.
Many have tried to find ways to serve higher-risk borrowers at a low cost. The results of a loan guarantee fund for Credit Unions were such that more than four out of five original funders were not willing to replenish the fund. Ladywood Community Credit Union was given £11,500 funding, but was only able to issue 20 loans a year; 10 percent of loans were written off and 23 percent were over three months in arrears.
The Labour government set up a £120m growth fund that ran from July 2006 to October 2010. In total, 329,888 loans were made in targeted communities, with a value of over £137m. Operating costs were between £60 and £75 per loan. The cost of administering the scheme totalled £40.8m, with the additional social cost of lending estimated at £14.3m.
The National Housing Federation set up another scheme called My Home Finance in 2010 with the backing of the Royal Bank of Scotland, 26 housing associations and the Department for Work and Pensions.
The idea was that it would offer fair loans at fair prices (representative APR 98.94 percent) but, after scaling back its original high street presence, it failed to grow loan numbers as expected and, in 2013 and 2014, it reported operating losses of more than £2.1m and failed in 2015. The outstanding housing association investment, worth £3.5m, is unlikely ever to be repaid.
The coalition government made a further investment of £38m over the three years to 2015 into Credit Unions, in addition to £13m invested in 2011-12. The intention was that credit unions should thereafter be fully financially sustainable with no more subsidies. That did not happen.
So yes, low cost loans can be made available, but government (or someone) has to subsidise them. And even with subsidies, they operate less efficiently and with less coverage than the existing commercial sector.
If the FCA is true to its beliefs on affordable lending, it will have to accept that affordable lending (in the way the FCA defines it) to low-income, high-risk consumers is nigh on impossible. Instead, the FCA should expand the good work it has already done with the payday sector to other forms of high-cost credit. Bringing that work and its learnings to other sectors of the market will allow for the creation and consistent enforcement of affordability standards in all areas of the market to ensure consumers have access to fair, responsible credit.