The announcement that payday lending industry will – finally – see a cap on the cost of credit is welcome news. But any belief that this one simple measure will eliminate the industry would be mis-guided.

For a start, the cap on the cost of a payday loan introduced by the Financial Conduct Authority (FCA) is well behind the trends within the sector. Take the problem with what has been called the “wild west” of the payday industry. While firms such as or Kreditech are very well known companies operating solely on the internet, the “wild west” refers to companies that fall under the radar. They perhaps operate from abroad and trade in the UK market, or are set up to appear like a payday lending website when in fact they are a broker firm that takes an online application and sells it on to a lender. That particular trick means a borrower incurs the cost of the loan, and additional associated fees, but also the fees for the brokerage firm.

What is beginning to happen more and more, somewhat spurred on by the wider presence of online companies, is that payday loan trade associations are suggesting there is a “them and us” situation in the market. Some associations try to convince the FCA that they should concentrate less on regulating the “nicer” end of the payday market, and more on those “wild west firms” online and indeed offline.

The artificial distinction between the online and offline worlds of payday lending is really about regulators’ inability to monitor compliance in the retail credit industry. For every regulation there is a workaround: for example, payday lenders can change the length of the credit contract to avoid falling under the cap. There is no friendly policeman on the high street or knocking on website doors to make sure the rules are being obeyed.

Back to the streets

Carl Packman’s work on the sector has revealed evidence of this attempted schism as well as the lack of any united front among the lenders in the UK or in any other country:

Interestingly more payday firms are coming away from online, despite the fact that many consumers are migrating to online lending. Some lenders are in a battle to appear nicer and better and more responsible and effectively saying to the regulator ‘go and regulate someone else, leave us alone; we’re doing everything fine’.

In some ways this is a simple response to stricter regulation; an attempt to focus attention elsewhere. An attempt at misdirection, you might call it. Packman notes that this trend has already started to appear in the US:

What I’m assuming is that, as the regulation in this country becomes far stricter, particularly with the payday lenders themselves and the movement towards a more consumer-friendly regulation, then I think we’re going to see a migration back from online to offline … particularly as some of the bigger companies in the States are doing that right now.

Bottom up

The lenders have not only been subject to regulations imposed from on high. There have been localised initiatives to dent their influence – as well as the odd sharply focused satire. However, in looking at the grass roots efforts, we actually see more evidence of a viable future for the payday sector.

Calm down. It’s a joke.
Calm down. It’s a joke. Darren Cullen, CC BY

In addition to efforts by national politicians and campaigners to bring sense to a previously poorly regulated industry, some UK local authorities have been keen to take a strong stand against the industry. In 2012, Lewisham council passed a vote that pledged to promote credit unions in the borough, while dissuading people from taking out loans from payday lenders.

In 2013 Medway council decided to block websites to payday loan companies from all council computers, including in public libraries. Other measures carried out by Medway included banning loan adverts on council-owned hoardings and free advertising for Medway Credit Union. Newham Council, meanwhile, has agreed to a ban on advertising payday lenders on its property.

Credit Unions as alternatives

Bizarrely, until such time that the cap on the cost of payday loans takes full effect, scheduled for January 2015, their benign cousin, the Credit Unions, remain the only financial institution in the UK where a price ceiling is mandatory. Credit Unions were obliged by legislation to an interest rate cap of 26.8% (or 2% per month) which increased to 42.6% (or 3% per month) from April 2014 to give them more scope to compete with high-cost short-term retail credit providers, like the payday and doorstep loan industry.

In fact, Credit Unions are the most regulated retail credit providers and offer proof that a cap does not serve to eliminate an entire industry. As part of the Credit Union Expansion project initiated when Archbishop of Canterbury Justin Welby vowed to “out-compete Wonga” there are still many more restrictions on the way Credit Unions operate.

Efforts to give Credit Unions more freedoms as Community Development Finance Institutions seeks to better serve those who are otherwise reliant on payday lenders and other forms of high cost credit. But we are still a painfully long way from realising Welby’s ambition. CDFIs in the UK – which includes all Credit Unions and other forms of CDFI – still only serve around 4% of the market for retail banking services.

The big challenge is to create a level playing field between the different segments of the retail banking industry. Those who want to use finance to improve communities and people’s lives and are content to make a reasonable profit, like Community Development Finance and social enterprise, should not be at a regulatory disadvantage compared to those firms that believe in maximum profits no matter what the costs.

First published 12 November 2014, The Conversation