Consumer Credit Regulation

Lord Willetts Excerpts

Tuesday 9th November 2010 Westminster Hall

[Stella Creasy]

My right hon. Friend is absolutely right. We know that it is possible to intervene effectively in such markets, and I shall come to that next.

In the Consumer Credit (Regulation and Advice) Bill, which is my private Member’s Bill, I suggest not a blunt cap on interest rates, but a cap on the total cost of lending, which is vital. Given the experience in other countries, it seems likely that focusing solely on capping interest rates would lead some companies simply to recoup their profits through administrative and late repayment charges.

Also, as I said, the situation in the short-term loan market can be very different from the long-term compound interest that many people face. That creates perpetual rolling debts in which families get stuck. It is worth highlighting exactly what that difference is and what it means for interest rates. Some short-term loans have an annual interest rate of 2,000% or 3,000%. If I were to lend someone £100 and ask for £10 at the end of a week, it would equate over a year to an interest rate of approximately 3,500%.

We need more sophisticated tools than a blunt cap on interest rates to get around the maths and also to ensure that emergency loans are not rendered illegal or impossible when they are manageable, and that is why I propose two forms of intervention. The first is powers to intervene on the total cost of borrowing over the lifetime of a loan to set parameters within which any company can be expected to act. Such a process would examine the total lending charge and give the Government the power to stop a single loan from exceeding a certain percentage of the original value through all the costs associated with it. That could be done through the Office of Fair Trading or whatever remnant of Consumer Focus the Government leave as protection following their decision to disband it.

Secondly, within those parameters, the Government should consider caps on the interest rates that firms charge for different forms of loans—whether they are pay-day loans, longer term or for hire purchase. That would avoid inadvertently killing off the short-term emergency loan market and address the impact of compound interest.

As hon. Members have pointed out, these are not back-of-the-envelope proposals without any foundation. Just last week in Montana, alongside the mid-term elections, the public voted to cap the interest rate that lenders can charge. That makes Montana the 16th US state in which pay-day lending is effectively banned because of a 36% limit on the annual interest rate that lenders can charge. Indeed, 15 states in America have essentially eliminated pay-day lending altogether by introducing a ban or cap on the maximum amount of credit at a low level, which has driven such lenders out of business. Some 35 US states and eight Canadian provinces have introduced higher caps on the price of pay-day loans, which allows such loans to operate but protects consumers from extortionate lending. For example, in a number of Canadian provinces, caps have been set at between $21 and $23 per $100 lent.

Such legislative interventions have been put in place not only in America and Canada, as 14 European states have some form of ceiling on interest rates. Countries often have more than one ceiling because they are set according to the different type or size of loan. For example, there is a different loan category in Belgium for those under €1,250 and those over. Alternatively, ceiling levels are set according to the terms or nature of the loan, such as depending on whether they are mortgages, credit cards or auto loans. The number of parameters can make some ceiling designs complex and difficult to understand. Indeed, the most straightforward are the absolute ceilings found under the past tradition of usury laws, but their impact is not as effective as some of the more targeted ceilings. There are differences between what has happened in Greece and Malta, and in some of the other countries that have brought in more complicated caps, such as Belgium, Portugal, Poland and the Netherlands. Many of those are based on a reference rate, under which a multiple of average market rates can be used to set the ceiling. In France, the ceilings are set at 133% of the market average—in other words, one third above the average.

A report on the effects of rate caps in Europe is due to be published by the European Commission in February 2011. I understand that it will support the case for caps, provided that the form and level of the caps are carefully constructed. Those issues—what form the cap could take and where it could be set—need proper and full discussion. It does not take the debate forward to say that because some caps have not worked, we therefore should never have them. We should be asking where caps have worked well, how we can learn from that, and how we can apply them so that we effectively help people on low incomes in the UK. Frankly, what is the credit review for if it is not to examine how and if such approaches could work here?

The Government could learn from other countries about ways of preventing compound interest’s connection to debt dependency. Indeed, that is why it is all the more surprising that the credit review does not consider such matters. America and Canada have experimented with restricting the amount that can be lent—for example, Illinois and Nevada have put in place clear requirements that a loan should not exceed 25% of a borrower’s income. In Arizona, California, Colorado and Florida, the number of loans that can be provided has been limited to just one at a time. In addition, Indiana prohibits more than one loan from a single lender and limits the total number of loans to two. Alabama restricts the total number of times a loan can be rolled over to just one. Alaska allows just two, while Illinois, Kentucky and Louisiana prohibit the practice entirely.

[The Minister for Universities and Science (Mr David Willetts)]

The hon. Lady makes much play of the evidence from individual American states. Does she accept that one of the consequences of what happens in America is that lenders that are set up in other states are able to sell their services perfectly legally in the states in which such practices are banned? That increases the risk of illegal lending, so I am not sure that the fact that such things happen in some American states particularly strengthens her case.

--- Later in debate ---

[The Minister for Universities and Science (Mr David Willetts)]

We all wish to thank the hon. Member for Walthamstow (Stella Creasy) for securing this important debate. She made clear her views about loan sharks—even more so when she tweeted a message to me which, if clicked on, plays the “Jaws” signature tune. We know where she stands, and during the few minutes available, I hope to respond to the specific points that she raised. I also want to comment on the excellent speeches made by my hon. Friends the Members for East Hampshire (Damian Hinds) and for North Swindon (Justin Tomlinson), and the hon. Members for North West Durham (Pat Glass), for Solihull (Lorely Burt) and for Harrow West (Mr Thomas).

Sadly, time is tight, so I will go straight on to some of the points that were raised. I am sorry that the Under-Secretary of State for Business, Innovation and Skills, my hon. Friend the Member for Kingston and Surbiton (Mr Davey), cannot be present, but he is involved in the Committee stage of the Postal Services Bill. As part of the development of our policy on postal services, we have published a document to secure the post office network in the digital age. The hon. Member for Walthamstow will have the opportunity to pick up a copy from the Vote Office, but let me draw her attention to paragraph 53 on page 24, which states:

“We are firmly supportive of a stronger link up between Post Office and credit unions and are actively looking into ways the two can work more closely together. Credit union current accounts holders can already access their accounts at post offices through arrangements with the Co-operative Bank, and it is estimated that…almost 80,000 Credit Union transactions have been carried out in post office branches.”

We understand the importance of the links between credit unions and the Post Office, and we have made a commitment on that.

The hon. Lady also asked about a levy to fund credit advice, but that is not a straightforward matter because one would have to consider on whom the levy should fall. Should it fall on credit unions? The Consumer Financial Education Body is part funded by credit card providers and other credit providers, and before we go down the route of a levy, we should await the results of our wider debt review, which I shall say more about in a moment.

The hon. Member for Harrow West asked about the consumer advocate and the consumer landscape review. Following the changes to the consumer landscape announced by the Secretary of State on 14 October, we are still considering the options. The previous Government launched a consultation on that issue, so we are not able to provide a response to that point at present.

Given the level of concern among all parties, I would like to report on changes that are already under way, which go back to the previous Government. Those changes, which will offer significant new protections for borrowers, include a new cooling-off period that will allow the consumer 14 days to withdraw from any credit agreement, a need for adequate explanations to be provided to any consumer when taking out credit, and a requirement for someone to undertake a creditworthiness assessment before any loan is made. Those changes will benefit consumers.

Let me turn to the focus of the debate: the consumer credit and personal insolvency review. A call for evidence was launched on 15 October. My hon. Friend the Under-Secretary is leading on that review and working closely with the Financial Secretary to the Treasury.

The review focuses on three key issues, the first of which concerns helping consumers and lenders to make better borrowing and lending decisions because we think that more can be done in that area. Secondly, consumers and lenders should increasingly manage existing borrowing in the long-term interest of the consumer, so we want a regulatory regime that encourages consumers to manage their level of borrowing over time and limits the scope for people to be unfairly penalised for events beyond their control. Thirdly, people in difficulties should be able to access the most appropriate debt remedy.

[Chris Evans]

When I visited a branch of Lloyds TSB recently, I was told that a major problem was that if good customers get into a dispute, for example with a mobile phone company, and a county court judgment is imposed on them before the dispute is resolved, their credit rating can be messed up. Do the Government intend to review that situation?

[Mr Willetts]

Such abuse needs to be included in the review.

In the remaining few minutes available, I shall try to reassure hon. Members about the way in which the review is being conducted. First, we know that we must engage with specific issues, such as advertising. The existing rules on advertising do not address some of the softer issues concerning the way credit is advertised, so we wish to examine that. Impulse buying on store cards is another key issue that will form part of the review. In addition, the coalition Government are concerned that some charges levied by banks, particularly for unauthorised overdrafts, may make it difficult for consumers to keep control over their finances. The review will also cover interest rate caps, which we recognise as perhaps the most controversial issue touched on in today’s debate. We are concerned that the APR on some store cards can average 26%. Despite the fall in the base rate of interest since 2008, there seems to have been no comparable fall in rates on store cards.

The hon. Member for Walthamstow asked about other terms for the review. We have asked for evidence on a specific number of issues, so if people, including hon. Members, believe that we have not flagged up a problem that needs to be addressed, they should provide evidence of that problem to the review and state how it should be identified. The coalition agreement specifically mentions the issue of an interest rate cap on credit and store cards and that of a cooling-off period. Those are specific coalition pledges, which is why they are top of the list in the review, but there was no intention to exclude other subjects from the consultation should hon. Members, or other concerned people, wish to provide evidence of problems to be included.

[Stella Creasy]

Is that a yes? If we provide evidence that there needs to be action on interest rates charged across the board, including for pay-day loans, home credit markets and hire-purchase agreements, will the Government look at that evidence, act and include the matters in the credit review?

[Mr Willetts]

It is certainly an undertaking that if people, including the hon. Lady, come to us with evidence of a problem, we will consider that as part of the review. Obviously, we cannot commit the Government to act because that raises a host of further issues. If there were time, I might have repeated for the benefit of Opposition Members the details of at least three separate studies on interest rate caps that were commissioned by the previous Government. They all concluded that there were strong arguments against such caps, including the danger that people would become more dependent on loan sharks. We are aware of the evidence from the 2004 study, the 2006 inquiry into competition and, most recently, the OFT review. We are not committed to such measures because of our concern about people becoming dependent on loan sharks, but we will certainly consider the evidence. If the hon. Lady, the hon. Member for Solihull—who has a track record of being concerned about this issue—or any hon. Member would like their evidence to be considered, they should submit it to our review.

I assure the hon. Member for Walthamstow that I and the rest of the Government appreciate the many concerns about the availability and consequences of consumer credit. When used sensibly and responsibly, credit is a tool for coping with life’s uncertainties, but this is an area in which we must gather evidence before we introduce new rules, because we otherwise risk unintended consequences. That is why we have launched our call for evidence, and it is why I welcome today’s debate.