Published:

Phillip Blond is the Director Of ResPublica. Adam Wildman is a
research manager at ResPublica and one of the authors of Risk Waiver.  Follow
Philip and Respublica on Twitter.

Screen shot 2013-06-11 at 18.18.15It
is no secret that personal and corporate lending has stagnated over the
last five years. The credit that our businesses and households need is
simply not as available as it was. We desperately need a strategy from
Government that combats one of the main causes of this contemporary
restriction in lending: unprotected and unaddressed credit risk.

ResPublica’s
latest report, Risk Waiver: closing the protection gap and opening the
credit flow, explores how the Government and financial industry could
better utilise protection products to reduce credit risk and unlock
lending to consumers  and businesses.

Lending matters for the
economy – it matters a lot. The total gross lending in the UK plummeted
from £140.5 billion in the second quarter of 2007 to £60.7 billion in the final quarter of 2012, a reduction
of 57 per cent, compared to the lending volume before the credit crunch.
Studies in both the U.S and the EU have shown that falling credit supply
shrinks real GDP growth.

Five years after the credit crunch, a U.S study
has found that if core lending declines by 4 per cent, then real GDP reduces by
0.6 per cent. A European paper studying the same effect found that, in the
Eurozone, if core lending declines by 5 per cent there is a long-term reduction
in real output growth of 1.6 per cent. Transposing those findings to the
situation in the UK gives startling indications of the possible impact
on our economy of credit contraction.

Given that the UK’s 2012
GDP was £1445 billion, the American study would suggest a real output
loss for the UK between 2007 and 2012 of £123 billion, whereas the
European paper would suggest a loss equivalent to £263 billion. On a
conservative estimate, since our economy is closer to the Eurozone,
placing the UK directly between both studies, the loss in GDP from the
contraction in lending between 2007 and 2012 was a staggering £193
billion.

Screen shot 2013-06-11 at 18.31.28It is surprising given the impact that consumer spending
has on the economy, which accounts for some 65% of UK GDP, that so little
thought has been given to reviving it. It is almost as though, given the
current debt crisis, we have given up on thinking how credit might be
used and delivered differently. Not only is household spending some way
down on its pre-recession levels, household credit availability is also
55 per cent down over the same period.  With an increase in the number
of part-time workers in the economy, partnered with what will soon be a
‘lost decade’ in take-home pay, now more than ever households rely on
credit not just to answer their immediate cashflow problems but also to
start a business, fund education or even move from areas of high
unemployment to ones where work is available.

Current Government
attempts to resuscitate lending have focused on keeping interest rates
low for all debtors and flooding the business sector with large-scale
pump-priming schemes, such as Funding for Lending or the Enterprise
Finance Guarantee Scheme.  So far, these schemes have failed to generate
anything like the increases needed, and an area of extreme concern is
the funding for Small and Medium Sized Enterprises (SMEs). Not only has
SME lending fallen by 25 per cent since 2009, but loan rejection rates
in the UK are twice that of our greatest European competitors, France
and Germany.  Given that SMEs represent 60 per
cent of private sector employment and 50 per cent of private sector
turnover and almost all future jobs,  a failure to lend to SME’s is
fatal to the economy’s hope for growth and jobs.


Government
initiatives have skirted around the key issues, and have systematically
ignored the inherent problems in the current system of SME lending. We
have no adequate system of assessing the investment worth and risk of
the UK’s SMEs – and no system to deliver the credit to them either.  Government
seems to believe that there is a problem with the UK economy’s credit
pump -but it’s the circulation of credit that is damaged beyond repair:
the credit veins in the economy are hopelessly blocked.

What we need is a
new way of getting credit to flow through the economy once again.  Debt
waiver, if organised through LEPS and new local banks dedicated to
business lending, could help deliver the credit so desperately needed by
our economy.  If we were able to assess a small company as a good credit
risk and created a waver market that could insure that the lending
to it was secured, just imagine how much credit could be delivered to
the sector.

To tackle the unaddressed problem of consumer
lending, our report proposes that protection products have an important
part to play in stimulating lending to ordinary people.  All credit
protection products provide a valuable means of safeguarding loans.  But
one particularly innovative product currently underutilised in the UK
market are ‘debt waivers’.  These products, commonplace in the U.S, offer
a waiver facility to the borrower in the event of an insured event.  If
somebody who has a waiver is ill or loses their job and so is unable to
pay the loan, the debt is waived.

With waivers, instead of the onus
being on the customer to take out protection on their loan, it is for
the lender to do so and pass on the benefits to their customers in the
form of a waiver.  In this way, these innovative products shift the
burden of default away from households and small businesses and onto the
lender. As such, the waiver is a business-to-business credit arrangement in which the lender takes out the insurance rather than the borrower.

Furthermore, the waiver costs far less than PPI ever did. Average commissions were
as high as 59 per cent across all PPI distributors. The OFT found that for a
£5,000 loan the headline rate was 5 per cent APR. Once PPI was added the rate,
increased by a full 8 per cent to 13 per cent APR. For waivers which attract no
commission, the current UK equivalent APR rise would equate to between
0.4 per cent to 1 per cent APR.

The history of debt waiver in the US has
consistently been shown to safeguard loans in a transparent manner,
whilst at the same time improving the lenders financial results. 
Protection products can, therefore, enable the greater availability of
credit to the market – people are more willing to lend in an insecure
jobs market when they know they will be repaid.

One key
recommendation of Risk Waiver is for the Government to make protection
on personal and small business loans compulsory for all lenders in a
manner similar to car insurance.  This way it can be guaranteed that
both customers are wholly protected in the event of illness or injury,
and that lenders feel are more secure in the loans that they issue out.

We also recommend that the Government use its influence with
the two state-owned banks (RBS and the Lloyds Banking Group) to
encourage them to act in the greater good and develop new product
innovations that safeguard credit, protect customers and stimulate
lending.  Where these two large lenders lead, other will follow. 

The
myriad Government schemes currently attempting to get lending going
again are clearly not up to the job.  Ensuring adequate protection on
the loans businesses and consumers take out would help to create an
economy where credit is both more widely available and inherently more
secure.  This, we believe, would help to unlock and recreate growth in the
British economy.

Risk Waiver: Closing the protection gap for consumers and opening the credit flow for providers is available from Respublica

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