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Climbing the Credit Ladder When the First Rung Is Missing

18/11/2014 11:11 GMT | Updated 17/01/2015 10:59 GMT

Should responsible borrowers be rewarded for their good financial management with access to increasingly cheaper forms of finance? A new report says 'yes', but not everyone thinks they should be allowed to climb the credit ladder.

The idea that good borrowing behaviour should be rewarded was a recommendation that came in a report released this month which was researched and written by think tank Respublica. The independent report was funded in part by the Consumer Finance Association and while we agree with some of the recommendations, others need further analysis.

Respublica set out to investigate how short-term ('payday') borrowers, who are often stigmatised and reportedly penalised by mainstream lenders, could actually be rewarded for proving they are responsible borrowers capable of managing their finances and deserving of access cheaper forms of credit.

'Climbing the Credit Ladder: Short-term loans as a path to long-term credit' argues that a reformed short-term credit industry has the potential to be both socially and economically transformative for those in need.

The reaction in some quarters to the launch of the report shows just how incredulous the debate around short-term lending has become.

An immediate, knee jerk reaction to anything connected to the payday lending industry by certain people is to disregard and discredit it. Forget the possibility that it might be a robust piece of work that is attempting to move the debate along. Forget that the industry is radically different to the one that existed pre-2012 and, in co-operation with the regulator, is operating to a robust set of new rules. Ignore the fact that the people who take out and repay payday loans like the financial discipline and control short-term borrowing gives them and without short-term loans would long since have sunk into a financial abyss.

The refusal to move on and a determination to cling to the notion that short-term lending is inherently bad for consumers is worrying. It is this stigmatisation that is preventing the very people these industry critics say they want to protect from improving their financial stability and future prospects.

Why shouldn't short-term borrowers be allowed to climb the credit ladder? We firmly believe that borrowers should be judged on the way they manage their finances, not on the type of finance they have used. Studies show that people who use short-term credit tend to do so several times a year, but are not dependent on it from month to month.

This repeat borrowing gives lenders a clear view of a borrower's behaviour. And with the short-term credit industry trailblazing the development of real-time data sharing (registering loan applications, approvals, payments and missed payments) with the main credit reference agencies, all lenders will have an up to minute picture of a customer's borrowing behaviour.

Yet still some mainstream credit providers want to assume that a payday loan on a credit record is a clear warning sign. These are the lenders that rely on monthly credit records and assume that this is timely enough to reflect the reality of financial management in the online world.

The case for helping sub-prime borrowers to climb the credit ladder is clear.

Unfortunately, the tough regulations now governing short-term lenders mean that up to half a million people can no longer access short-term credit, let alone mainstream alternatives further up the credit ladder. And that leads to disenfranchisement.

When YouGov, on behalf of the CFA, asked more than 700 people whose short-term loan applications had been declined what they did next, they found some worrying results. More than a third of people considered turning to an illegal lender and only a quarter of people said they were better off without a payday loan because they ended up defaulting on other bills and incurring high charges and additional fees.

The harsh reality, as unpalatable as it may be for some people, is that without access to short-term credit, hundreds of thousands of people are being forced to make some highly undesirable financial choices.

A well-functioning short-term lending sector should be part of a wider consumer credit market, one which enables people to progress to cheaper and more affordable credit, and provides a safety net to those in need.

That simply isn't the case at present and payday borrowers are not only being prevented from climbing the credit ladder, many are actually being forced out of the financial community . This is a serious matter beyond cheap politicking and all interested parties need to come together for a rational, fact-based debate.