Part of the UK financial system is disappearing. It’s time to have a proper plan for what is taking its place.

The latest blow to the subprime lending industry came last Friday, when Amigo shares resumed trading after a two-day suspension and quickly fell by 34%. Amigo charges an APR of 49.9% on loans (defined as half-price) that require a family member or friend to act as a guarantor. He is awaiting a court ruling on a system to cap his compensation payments to current and former customers, after being hit by a wave of complaints about abuse sales and accessibility controls.

Amigo said the alternative could be administration. He is in limbo after his regulator, the Financial Conduct Authority, objected to his plans and a delayed court ruling.

Separately, door-to-door lender Provident Financial offered its own program amid soaring complaints and said it would shut down its high-cost mortgage unit.

The problems of these companies rarely generate much sympathy. A stricter framework for repeat loans and affordability was needed. But a drastic shift in regulatory attitudes and a wave of complaints from claims handling companies are creating market failure, as growing financial vulnerability means alternative financing is needed most.

It is not a niche problem. The FCA, pre-pandemic, said 3 million consumers used high-cost, non-overdraft forms of credit. But the number underserved by the current system is much larger: Fair4All Finance, a group that works to tackle this problem, says there are 11 million people in the types of vulnerable financial circumstances that exclude them from the general supply, 3 million more than before the pandemic.

The backdrop is a subprime credit sector that has shrunk as regulation has intensified. In high-cost short-term credit, a sub-segment where prices were capped in 2015, the number of lenders has fallen by almost two-thirds since 2016 and the number of quarterly loans is down by more than 90% . Much of this is due to the demise of payday lender Wonga. But less blatant business models, such as mortgage lending, have also shrunk.

The conversation tends to get stuck in the debate over whether aggressive regulation is forcing people into the arms of illegal money lenders. It’s not just about heavy hitters with baseball bats: illegal credit providers can operate online, be surprisingly astute, and get up and running fast. The FCA argues that people instead turn to informal sources, such as friends and family, themselves not necessarily harmless or ideal.

What is needed is more attention (and money) to develop alternatives that can deliver financial products in a sustainable and responsible manner. Evidence suggests that providing affordable credit, such as through community development finance institutions (CDFIs), can help reduce the poverty premium and improve financial resilience according to the University of Salford.

When companies like Amigo and Provident are looking for a new model, it can mean an increase in the credit spectrum. Nonprofit CDFIs tend to serve people in more vulnerable circumstances, even compared to other community lenders such as credit unions. They cover their costs and provide a return to their investors. But a limited funding pool, plus little money saved for infrastructure or business marketing, means the industry remains low-key and tiny: it lent £ 26million in 2018.

The government has indeed recognized this problem. Since 2019, Fair4All Finance has provided Fair4All Finance with £ 96million from dormant bank accounts, of which £ 35million is spent on demonstrating how affordable credit can be stretched.

But the pace must pick up to match the collapse of the commercial sector and growing needs. United States puts $ 12 billion in its CDFI sector as part of the fight against the pandemic. Other countries, such as Italy, France and Mexico, have an established public-private model where the initial investment helped create a large microfinance institution focused on areas of market failure.

In the longer term, it may be necessary to look at the bonds of traditional banks. High cost lenders such as Provvy were born out of the reluctance of traditional lenders to serve these markets. the The United States has since the 1970s pushed banks to meet the credit needs of entire communities, including low-income households.

Stricter regulation was a step towards a better functioning of the credit market. There is still a lot of work to do.

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