Regulations limiting fees and interest rates in the unsecured lending space may, like recent visa regulations, have unintended consequences which will affect both lenders and consumers.
Over the past 10 years, there has been a significant increase in short term credit granted; a trend which is set to continue even as new regulations, gazetted this month, are implemented. Loans less than six months are 198% higher than a year ago, while the number of loans over 25 months is down 22%, the recent National Credit Regulator quarterly report shows.
Credit providers are already finding longer-term loans less sustainable to finance and clients are not qualifying as easily as previously and are moving towards shorter-term loans, often with unregulated lenders.
This month, the government published a review of limitations on fees and interest rates regulations, effective May 6, 2016, which will see interest rates on unsecured loans capped at the repo rate plus 21% – amounting to 27% based on the current repo rate and 6% lower than current maximum rate of 33,2%.
Fees, however, are increased and should contribute approximately 1% additional yield. The net result is that lenders will come under increased margin pressure and consumers will find it harder to get loan approval.
This follows the June release by the Department of Trade and Industry of a notice for public comment recommending limitations on fees and interest rates aimed at protecting consumers. It was criticised by providers of unsecured credit and the Banking Association of South Africa, who said the limitations would put lenders under pressure and push more people to approach unregulated and expensive informal lenders.
The South Africa Reserve Bank’s (SARB) September Financial Stability Review said that for banks, “it is unlikely that the marginal increases in interest rates and fees in some categories of credit transactions will offset the reduction in maximum interest-rates chargeable on unsecured credit … If credit is curtailed, it is unlikely that overall consumer welfare would be improved”.
Rayanne Jacobson, CEO of Izwe Loans (www.izweloans.co.za), says this comes on the back of a number of regulatory changes, which may over time, result in an improvement in bad debts. “There has been a lot of regulation since March this year (effective mid- September 2015), which included, inter alia, the provision of proof of affordability by the consumer – for example, three most recent bank statements or pay slips. In addition, the credit provider has to verify the consumer’s expenses from credit bureau data. These requirements, although cumbersome from the credit provider’s perspective in terms of re-engineering operational processes to facilitate this, were positive in that they enforced the appropriate approach to ensure responsible lending where the consumer lacks adequate disposable income to fund future repayments on the loan. Naturally, bad debts should reduce as an encouraging consequence.”
However, over-regulation or inappropriate regulation can have negative consequences too.
Following a long period of under regulation leading to the growth of companies like African Bank investments Limited (Abil), the unsecured lending market has undergone a significant correction. Since Abil’s collapse, regulation has increased but the macro-economic impact has been severe. New regulations have tightened the rules relating to credit underwriting on the part of the credit providers, resulting in a contraction of supply by regulated entities. There is, however, still a demand, sending people to unregulated lenders.
As volumes and values of disbursements reduces, this places financial pressure on the credit providers to sustain their operational models against a fixed infrastructure platform and may be the reason for a number of such providers opting for business rescue as a last resort.
The concern is that the most recent regulatory development has been implemented without clear impact studies – as suggested by SARB. Unemployment is 25,5% officially, and economic growth is forecasted at 1,5% whereas two years ago it was 2,5%, 1% of which was believed to be fuelled by consumption spending.
“Yet microfinance, done responsibly, is a huge contributor to economic growth. It is also the only way to give many people access to finance in order to grow their businesses or improve their lives. Responsible lending and responsible borrowing lead to increased prosperity and higher economic growth”, believes Jacobson.
Education of consumers still has a long way to go, but is crucial in ensuring people do not fall into debt traps brought on by the culture of rampant consumerism and reckless borrowing in the country.
There is no doubt that the creation of a macroeconomic ecosystem that breeds responsible actions across the spectrum, and stimulates economic growth, built on the tenets of education, is already evident and has been improved in recent years. However, the dramatic response to the inappropriate rules of the past, without knowledge of what the unintended consequences are, may prove to be counterproductive in the end.