Increasingly you wonder if there isn’t some weird, masochistic thing going on at the Treasury.
It is hard to believe that nobody realised they would get a good spanking for the pasty tax, the caravan tax and the charity tax relief cap. Yet they went ahead anyway.
And another self-inflicted wound is waiting to happen that is just as baffling. Try to imagine the most damaging headlines the Treasury could suffer and high up the list would be: “Thousands lose savings in new banking scandal. Government ignored warnings about lack of regulation.”
Yet that is what the Treasury risks. The issue is a new form of banking that many believe could revolutionise financial services. Called peer-to-peer lending, it matches borrowers with lenders over the internet. Normally, borrowers get money from a bank that, in turn, gets it from savers. In peer-to-peer lending, pioneered by a British company called Zopa, the middle man acts merely as a broker.
Because these new lenders don’t need expensive branch networks and large amounts of capital, they can offer better rates than banks to both borrowers and savers. But if you lend through one of these brokers and some of the loans go bad, you take the hit; if you lend through a bank, it will absorb the losses.
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The Government is excited about these new exchanges because it is worried about the low level of new lending in the economy. Banks need to build up their capital to meet tough new rules and are charging high rates to borrowers compared with very low rates offered to savers. Yet there is a lot of money around looking for reasonable returns. By matching it with borrowers, the likes of Zopa could boost lending and provide much needed competition for the banks.
Andy Haldane, the director for financial stability at the Bank of England, recently suggested these new lenders could do to the banks what online music sales are doing to CD retailers and record companies. “The banking middle men may in time become the surplus links in the chain.”
Whether they fulfil that potential will depend on how good they are at assessing the risks of borrowers on behalf of lenders.
Some of the early pioneers got it badly wrong and lenders lost a packet. But Zopa, for example, has been very successful so far. It assumes average losses of about 1 per cent, but the actual defaults have been running at about half that. It reckons the equivalent rates for the banks are more than 3 per cent. Zopa operates in a small niche of lending — personal unsecured loans.
Giles Andrews, Zopa’s chief executive, says the wealth of consumer credit data available makes it possible to assess very accurately the chances of a particular individual being able to repay a loan. Zopa also speaks to all loan applicants, which is more than banks do, and reckons that it does better risk assessments more cheaply.
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Zopa deals only with personal loans but a number of the new lenders, such as Funding Circle, provide credit to small businesses. Their record on losses is also good so far, even though assessing the creditworthiness of a business is trickier than for an individual. The data available is less good and accurate judgments require more personal contact.
The banks have been criticised for moving towards centralised, impersonal lending decisions for small businesses and most are trying to switch back to a more relationship-based approach. This may make it harder for the new lenders to steal business customers cheaply. Some experts also question how the new lenders will fare when interest rates rise. They have benefited from a very low level of business loan defaults, largely because of low interest rates.
Nevertheless, the new business lenders are attracting understandable interest in government. Increasing loans to small and medium-sized companies is seen as key to economic recovery and has become a politically sensitive issue.
That is why the Treasury has launched a credit-easing scheme that would provide an effective government subsidy for lending to small companies by banks. The Government is also trying to bypass the banks by putting money into funds that lend directly to small businesses. Last week, it asked for applications to manage £500 million of government investment and said it expected some of the money to go through peer-to-peer lenders.
This will be another big boost for the credibility of the new lenders. But the peer-to-peer companies are moaning about government regulation. No surprise there you might say. Dogs bark, ducks quack and banks moan about regulation.
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But this is rather different. Their beef is not too much regulation, but too little. In fact, there is virtually none, at least on the side of the business that takes money from savers.
This makes the peer-to-peer lenders nervous that the new sector might be hit by a fraud that could tarnish the whole idea. Some senior officials at the Bank of England are sympathetic. But the Treasury is firmly against regulation on the commendable grounds that it does not want to strangle a potentially exciting development with red tape.
Certainly, heavy-handed regulation could be very damaging. In America, peer-to-peer lenders are subject to regulation by the Securities and Exchange Commission that is so onerous that Zopa scrapped a planned US launch. Some peer-to-peer lenders are growing fast in the US but are making heavy losses, largely because of the costs of the red tape. In contrast, Zopa made a small profit last year.
Zopa and other leading peer-to-peer lenders in the UK are calling for a relatively light regulatory regime that would reduce the risks of problems — by, for example, ensuring there are adequate controls to keep client funds separate from the exchange’s money — without significantly raising costs and deterring new entrants.
It is extremely rare for businesses to call for greater regulation of themselves. The Treasury should use this unusual opportunity to show that it understands the benefits of proportionate regulation and knows how to get the balance right. It could also prevent a disaster that would make pasties look like a picnic.