The financial turmoil means trouble for all. Banks are restricting lending and withdrawing products and confidence in mainstream finance has been battered. But it is those who are financially excluded who are at greatest risk from the credit crunch.
As banks restrict their lending, and as family finances become increasingly stretched, the use of doorstep lenders or loan sharks increases, putting further pressure on household incomes and siphoning money from low-income communities. The role of credit unions will be key to help prevent deprived neighbourhoods becoming the prey of loan sharks.
I have spoken before in this column about some of the things that the government, central bank, regulators and banking sector could do to arrest problems in financial markets and the real economy. While there is no magic bullet, a combination of targeted fiscal measures, a sympathetic approach to people in mortgage arrears, new (well-considered legislation on insolvency and deposits) support for the housing sector and first time buyers and the extension of the special liquidity scheme will all play a role.
But something that has not had much attention to date is what will happen to the poorest people who will no longer be able to access mainstream finance.
One of the challenges in my own constituency, Leeds West, is the high level of financial exclusion and the dependence on doorstep lending. Not only can this have a devastating impact on the families who get into financial difficulties, it drains money out of communities that most need it. The causes of this reliance are many, but stem from the fact that people with low incomes and no assets find it difficult to access mainstream finance and a feeling that banks and financial ‘products’ are not for them. The result is a higher cost of borrowing and more aggressive collection methods.
Before anyone had ever heard of the credit crunch, Leeds City Council (while still a Labour administration) did some research in to the problems of debt and financial exclusion: Exclusion to Inclusion: Financial Exclusion in Two Speed Leeds (Leeds City Council, 2004).
This survey, conducted in the most deprived parts of Leeds, showed that one in three had got into debt or fallen behind with at least one payment in the past two years: 15 per cent of those surveyed had outstanding debts. Half the sample had some form of credit or borrowings (excluding mortgages) at the time of the survey. In general people on lower incomes or those who rented their home were more likely to use expensive forms of credit such as licensed lenders or catalogues. Many people did not know what rate of interest they were paying.
Overall, 15 per cent had a loan or credit with a licensed lender, rising to 38 per cent of lone parents and 27 per cent of couples with children. It is estimated that 3 million people use money-lenders: between three and six per cent of the population will use them at some point.
The average interest rate on a loan with Provident – the largest licensed money-lender, is around 180 per cent. This is likely to be at the low end of the spectrum of licensed lenders, and when unlicensed lenders are included it rises further – interest rates of up to 900 per cent have been seen in Leeds. By comparison a loan from Leeds City Credit Union will be charged at 12.68 per cent (one per cent a month).
Importantly, these numbers are pre-credit crunch. The availability of credit to this set of borrowers will have been even more restricted than for middle-income borrowers as lenders tighten lending criteria, withdraw products and put up interest rates. At the same time as access to credit has been restricted, demand has increased – the biggest reasons given in the Leeds study for needing a loan were unemployment and reduced incomes (both features of the economic slowdown). So, the reliance on loan sharks will be increasing – with damaging consequences to the borrowers and the community.
These facts are important for policy-makers at the micro-level – it’s about people’s lives, and the lives of the poorest at that. But it’s important at the macro-level too. The Leeds study estimates that if the city’s high-risk borrowers borrowed not from doorstep lenders, but from a ‘community reinvestment trust’, a minimum of £2,781,475.20 (and perhaps as much as £12m) could have been spent on the community.
There is some innovative work going on in Leeds West to help people avoid doorstep lending and unaffordable debt. Leeds Credit Union is working with Bramley Primary School to encourage children and parents to save; Bramley Credit Union is working in the Fairfield Community Centre to help local people consolidate loans from loan sharks and credit card debts with a credit union loan and at the usual summer festivals the Leeds West Debt Forum ran successful stalls talking to local people about debt and handing out information about the credit unions.
Supporting this work at the ground level, the government has recently announced funding of £135m to fund initiatives to promote financial inclusion. These include £38m to increase consumer access to affordable credit through credit unions and £76m to fund free face-to-face money advice to financially excluded people.
When credit is squeezed those with low incomes and no assets feel the pinch more than others – having no savings to draw on, little or poor credit history and limited experience of financial products. Credit unions, supported by the government, can help address this market failure – helping to tackle financial exclusion, dependency on loan sharks and the siphoning off of income from the most deprived communities.
The way in which we support the poorest in society through the credit crunch will be an important test of Labour’s commitment to ending poverty and in enabling local communities at the brunt of financial strains. Without proper statistics on doorstep lending we will rely on people working in credit unions and local campaigners to give us an idea of the extent of the problem. With this information, we need to refine policy to meet these challenges.
Rachel Reeves works for Halifax Bank of Scotland but is writing here in her capacity as Parliamentary Candidate for Leeds West