Payday lenders are the new usurers (apparently)

It scares me when I read this: “Today I’m putting payday lenders on notice: tougher regulation is coming and I expect them all to make changes so that consumers get a fair outcome. The clock is ticking.”

It sounds more like an extract from the speech of a populist politician than from the head of the UK-based Financial Conduct Authority.

The FCA is now about to implement ever more intrusive regulation: those bad payday lenders, modern times loan sharks, must be reined in. As a result, we are now witnessing the return of middle-ages usury laws, which sound logical from a moral (or religious) point of view but not much from an economic one.

Under the new proposal, payday lenders will not be able to roll over loans more than twice, cannot try to get their money back more than twice, the FCA can ‘order’ lenders to drop products that are “not in the best interest of consumers”, and borrowers will need to ‘prove’ they can repay the loan.

Most (if not all) those points don’t make much sense. But let me address one particular point: regulators are (as usual?) trying to fix the problem created by other regulations.

I don’t really see the problem with payday lenders. If they exist, it is because there is a market demand for them. If there is a market demand for them, it is because some people are excluded from the traditional financial system as their credit profile is too risky. From this, we can conclude two things: 1. banning or reining in payday lenders will have the only effect or excluding entirely some people from the credit system and 2. asking those people to prove that they can repay is nonsense, as otherwise they wouldn’t have come to a payday lender in the first place as banks would have welcomed that risk-free interest income…

But let’s go back one step. How can there be such a market demand originally? Because banks don’t want to take the risk with those customers anymore. Why don’t they want to take the risk, even if awesomely rewarded? Because they are under pressure from regulation/regulators to de-risk their balance sheet and it has become way too costly as a result… We have another typical example of a morally good action (to make banks safer) that has unintended consequences. Now regulators and politicians are trying to regulate the problems created by the first layer of regulation. I guess in a few years time they will have to add another layer to re-regulate the shortcomings of the current layer… A never-ending story.