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David WardMember of Parliament for Bradford East@DavidWardMP on Twitter and Facebook |
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The cap doesn’t fit: why I changed my mind on capping the cost of payday loans
May 26, 2012 6:52 PM
I am no friend of the payday loans industry. Debt problems crop up regularly in my constituency surgeries and I have seen first-hand the devastating impact that they can have on a person's life, leading to constant anxiety and robbing them of any sense of control. Payday loans - small value, short term loans secured against your next pay check - are a common feature of the worst debt problems, along with credit card debt, mortgages and bank overdrafts. They are often turned to out of desperation and frequently end up compounding rather than easing underlying financial problems. The companies who pedal them have, in most cases, proved to be unscrupulous and exploitative and the Government has, until now, done far too little to protect the public.
Anyone would be shocked by the eye watering APRs that are advertised by payday lenders, often reaching into thousands of percent interest in a year. The obvious populist solution is to set a maximum APR as Stella Creasy and others propose, and indeed when I had an opportunity to introduce a Private Members Bill in 2010 I considered seeking to do just this. However, after further investigation, the situation was not so clear cut. APRs are only a part of the story and after listening to many hours of evidence on this issue as part of a Business Select Committee enquiry into debt management I now have a better grasp of what needs to be done.
While I would never recommend a pay day loan to anyone, I recognise that they do fulfil a genuine need that is not going to go away any time soon. Unexpected financial shocks are a part of life: it might be replacing the broken washing machine or it could be the cost of an MOT so a taxi driver can keep his car on the road and feed his family. There is a substantial section of society who simply cannot access a bank loan to cover these kinds of costs. The banks aren't interested in the business and in many cases the borrowers don't have a good enough credit history to qualify.
The customers of payday loan companies aren't stupid. They understand very well what borrowing 100 pounds and paying back 130 at the end of the month means even if they can't calculate an APR. The problems arise when they start rolling over their loans and incurring huge charges that aren't made clear in the lenders' advertising. Even worse, when the loan isn't to meet an unexpected one-off cost but is instead used to cover the repayments on another loan, people can get into a spiral which is next to impossible for them to escape.
If we were to put a cap on the cost of credit, what would happen? The need for short term debt would not go away but the evidence is that most of the current pay day lenders would exit this market. The people who use pay day loans would still need the money, but would no longer be able to get it through legitimate means. Some would be forced into the hands of the unregistered loan sharks who sometimes charge hundreds of percent interest in a week and use threatening behaviour when you aren't able to pay. It is far better to have a legitimate payday loan industry, but it needs tough regulation.
The BIS Select Committee made twelve strong recommendations for reform of the payday loan industry, which can be found in our report here. The first priority must be to limit the number of times a customer can roll over a loan. Requiring loan companies to register loans in their customers' credit records is another important step, to limit the "personal rollover" of one debt to another. The report also suggests looking at a slightly different approach to capping: limiting the amount an individual can borrow through pay day loans in a given year.
Yesterday, the excellent Liberal Democrat business Minister, Norman Lamb, announced an agreement with payday lenders that is the first step towards implementing these recommendations. The Select Committee will be carefully scrutinising the implementation of this agreement and won't hesitate to call for statutory regulation if it doesn't prove effective. Meanwhile, new powers will be handed to the newly formed Financial Conduct Authority to fine irresponsible lenders and set tough new rules for the industry independently of Government. The Office of Fair Trading is also carrying out thorough review of the entire payday loan industry to root out bad practice. I will be working with my colleagues in Government to make sure that they act quickly on the findings of this review and come down hard on companies that are breaking the rules. I firmly believe that these measures together will make a real difference. I am equally convinced that a heavy handed cap on the cost of credit would only make matters worse.