August 2008 will stick in the memories of many people for a long time. Lehman Brothers, one of America’s major banks, crashed and triggered an international financial recession of proportions not seen since the Great Depression of 1929. Its effects remain with us five years later, and there are still no real signs of recovery in sight. Locally, business confidence, quarterly growth, and other economic indicators remain as low as they have been at any time since 2008.
The major cause of the recession and its staying power was the reckless extension of credit during the boom years of 2004-2007, resulting in mortgages throughout the world being bloated to unmanageable levels. Rapidly rising house prices, triggered by the free-spirited subprime lending that brought new buyers into the markets, created excessive demand for homes, adding to the ballooning of traditionally sound first-world economies.
Did the lenders learn much from their indulgences, or have they since aggravated the situation with new forms of over-lending? A new lending monster has arisen, which is beginning to show signs of cracking, leading potentially to new levels of unmanageable indebtedness – unsecured lending.
In the past five years, commercial banks have shifted their lending targets from mortgages to personal loans, overdrafts, and other forms of unsecured lending. More than 20 million South Africans are now indebted to banks and other credit providers. The statistics for adverse credit records have increased radically over the same period. In 2008, no less than 6 million South African consumers were blacklisted – that figure has since increased to more than 9 million. Household indebtedness has increased to its worst levels ever.
The National Credit Act, introduced in 2007 to control reckless lending, seems only to have directed lenders away from mortgages to high-interest unsecured loans. No wonder there is no light at the end of the economic tunnels.
Unsecured loans have increased while mortgage lending has dropped dramatically. Unsecured lending, by its own definition, means only one thing if debtors should begin to default on their monthly repayments. The lenders (mostly commercial banks) will have no assets they can attach to secure their loans.
In 2001, Saambou Bank collapsed because of massive defaults on its micro-loans. The bank, with only R16 billion in assets and very little of that liquid, lost nearly R1 billion in a matter of months as investors added to its woes by doing a run on the bank, withdrawing investments as quickly as they could. Less than a year earlier, Saambou had produced a glowing annual report, disclosing that its micro-lending (the unsecured lending medium of its time) had increased from 13% to 24% of its total lending in just twelve months. Macro-collapse soon followed, and the bank simply imploded and disappeared.
In an article in the Business Times (Sunday Times, 9th June 2013), Riaan Stassen, CEO of one of the country’s major unsecured lenders, Capitec Bank, stated that one of the reasons this market has grown so much in recent years is the major changes in South African society that were not being addressed by the mortgage and secured lending markets.
He added a few other causes. Credit cards and overdrafts had previously only been available to consumers in higher-income sectors. Unsecured lenders were restricted to loans of no more than R10,000 over 36 months or less. All the reasons advanced by role-players in the credit market follow this pattern – economic factors have simply shifted the emphasis from secured lending to high-income earners to unsecured lending to a more broadly based market. But the real reasons are not being disclosed. The fundamental motivation has been a grim determination by mortgage lenders to offset their overblown home-loan books by targeting a market that attracts interest rates around 17% to 24%, irrespective of the obvious risks involved.
In the boom years, spurred by fierce competitiveness, banks put their ever-circling money supply into the only market that could sustain the circulation – mortgages. Despite the relatively low borrowing-to-lending ratio (only a 3.5% margin), lenders freely offered discounted rates around 2% off-prime to an ever-burgeoning market.
Since 2008, mortgage defaults, protracted foreclosures, and increased in-house recovery expenses have made heavy inroads into the minimal 1.5% profit margin remaining. The last thing banks want right now is to inflate their mortgage books further. Hence the shift to unsecured lending. Banks are aiming at balancing their losses by reaping the fruits of maximum interest rates. The cliff-face, however, is drawing ever closer, and some lenders are on a knife-edge. Massive defaults, very likely if inflation and interest rates should suddenly start rising, could dump a few more “Saambous” onto the ash-heap of reckless lending.
The whole purpose of the National Credit Act was to curb reckless lending. Instead, statistics may soon show that it has merely aggravated the situation during the years of its operation. The National Credit Regulator is aware of the growing economic albatross and is taking steps to curb reckless lending. Right now, the Regulator’s office is drawing a thin line between reckless and unsecured lending, increasingly regarding the latter as essentially reckless.
The Department of Trade and Industry recently gazetted its National Credit Amendment Bill, which is intended to curb the growing debt crisis. Extended punitive powers will be given directly to the Regulator, and reckless credit agreements will be referred directly to the National Consumer Tribunal for redress in future. Presently, these may only be condemned by the courts. Other measures, such as obliging lenders to approve or reject applications within seven days (to curb access to other forms of credit extension in the meantime), will be introduced. But will this result in effective changes?
The problem with the National Credit Act, something of a paper tiger since its introduction, is that it only serves to punish reckless lenders after the deed is done and only those cases that are reported to the NCR. The legislation needs to be amended to prevent over-lending, not to cure it. No one wants regulation in any industry that restricts free-market initiatives, but if banks cannot be trusted to manage their own affairs sensibly, something has to be done to contain their lending powers upfront.
Local banks have shown scant respect for the lessons they should have learned from the excessive mortgage lending that triggered the 2008 recession. Instead, they have simply burgeoned national indebtedness further and have done this with very little hope of recovering their unsecured loans if their borrowers should default on a grand scale (a very possible outcome if interest rates should rise substantially before the national economy begins to recover).
The NCR’s draft affordability guidelines incorporated in the new Amendment Bill may have to be replaced with legislative restrictions that can be enforced against lenders who continue to disrespect the growing economic stagnation caused by consumers continuing to lose their disposable incomes to high-interest rate indebtedness.