“The evidence from other countries is that capping does work”
Labour MP Stella Creasy, BBC Radio 4’s Today programme, 3 October 2013
Tougher controls are on the horizon for payday lenders, with the Financial Conduct Authority issuing a string of proposals – including affordability checks and free debt advice.
The FCA, which becomes the new consumer credit regulator in April, has said it will also consider a cap or limit on the exorbitant interest rates that lenders charge.
Russell Hamblin Boone, of the Consumer Finance Association (CFA) which represents payday lenders, argues that interest caps are “causing problems” in other countries – such as France and Germany – forcing people to turn to illegal lenders.
But Labour minister Stella Creasy, who campaigns against payday loans, disagrees. She supports a cap on the basis that people get into trouble because of the high cost of the credit.
She told BBC Radio 4’s Today programme she is convinced that payday loans are “going to be the next PPI scandal”.
Who’s right? FactCheck investigates.
On the radio, Ms Creasy told listeners to look up research by the independent Centre for Responsible Credit (CfRC), specifically on Japan.
So we did. The CfRC’s research found that in Japan, the argument that tighter controls lead to an increase in loan sharks is contradicted.
In 2000, the Japanese set a cap on interest rates at 29.2 per cent. In 2006, a new law established a 20 per cent cap on all loans up to 100,000 yen and a 15 per cent cap on loans any bigger than that.
Illegal lending in Japan “grew alongside the expansion of legal money lending” in the early 2000s, the CfRC found. “It did not expand in a ‘credit vacuum'”, the CfRC’s report finds.
It pointed to a 2012 report by Nottage and Kozuka, which found that illegal lending in Japan “has continued to reduce significantly even as legal money lending volumes have reduced”.
In other words in Japan, the success of loan sharks has tracked the success of legal lenders.
What’s more, payday loan companies in Japan didn’t take a hit from the cap on interest rates either.
In 2004, Bloomberg’s Businessweek reported that the biggest four consumer Japanese money lending firms were “heroes of the stock markets, exhibiting stellar performance”.
Though Japan and the UK are clearly very different the CfRC notes that “as in Japan, the UK has witnesses the exponential growth of high cost money lending in recent years”. This has been supported by capital investment from banking and private equity, it said.
Plus, as in Japan, lower income consumers in an economic downturn have been “bombarded with advertising for instant cash”.
Despite this, separate research by the CfRC found that it was “by no means clear” what proportion of people who are refused legal credit, turn to loan sharks.
However, it added: “We accept there is a potential risk of a growth in illegal lending if legal sources of credit are limited without other options being made available”.
It is these people with no other options for legal credit that “clearly need help and support” – yet it admitted that “caps on the cost of credit do not, by themselves, limit the expansion of money lending”.
So the CfRC has pressed the UK government for a “significantly improved” support network for over-loaded borrowers.
Meanwhile Mr Boone’s CFA, which represents the interest of short-term loan companies, points to research comparing the UK with France and Germany, where there are caps in place.
The CFA claims that the research shows contact between lower-income households in Germany and France with loan sharks is two or three times as high as in the UK.
FactCheck has dug out the research, by the independent social and economic research group Policis.
It does state that illegal lending in the UK is “significantly lower than in France or Germany” – and this is because exclusion from credit is “minimal” in the UK.
The report also states that the cap in Germany and France has benefited some borrowers – those who are “largely medium risk”.
However, it concludes that for “high risk borrowers struggling with debt, the major cost effects are not captured within this ceiling (cap)”.
The evidence from other countries is that a cap on interest rates has benefited some “medium risk borrowers” in France and Germany.
These countries however do have more loan sharks than we have here in the UK – and there’s no evidence that the cap has helped “high risk borrowers”.
But it’s also not clear how many “high risk borrowers” who might be refused legal loans, turn to loan sharks.
And as for the argument that a cap on interest rates leads to a rise in the use of loan sharks – this has actually been discredited by the evidence from Japan.
Over the last decade in Japan, the use of loan sharks has actually gone up and down in sync with the use of legal lenders.
The UK currently excludes just a “minimal number” of people from legal credit. So there’s not much of a market for loan sharks – even when the industry is galloping ahead.
The CfRC doesn’t think a cap alone is enough to limit the growth of money lending. Though the UK’s payday loan sector could take heart from evidence in Japan that tighter controls didn’t stunt the sector’s growth.
The people at risk are these high risk borrowers – and what they really need is decent financial advice.
The CfRC has recommended that the UK government sets up a £50m “rescue fund” to help credit unions reschedule existing high cost loans and to help people rejected by legal creditors with long term financial planning.
Meanwhile, it’s interesting to note that back in 2010 a YouGov poll found that 68 per cent of people supported an interest rate cap to cover all forms of consumer credit.
FactCheck finds it hard to give much credit to those arguing against a cap.
By Emma Thelwell