Financial deregulation and significant innovation within financial markets has seen a rapid increase in the type and number of consumer credit products available. What is not known is how consumers, and particularly low-income and vulnerable consumers, have adjusted to this changed environment. From little choice in products and suppliers twenty years ago, consumers now have an enormous range of choices available to them.
From relatively straightforward calculations based on a loan repayment schedule, consumers now also have to contend with a variety of different charges on top of the loan repayments. For many, credit is a lot easier to secure than it once was. One obvious symptom of this increased complexity is the increasing importance of mortgage brokers as an intermediary between consumers and providers.
Arguments for more flexible and responsive consumer markets rely on the importance of consumer sovereignty for their persuasiveness. Such markets, it is argued, are directed by consumer preferences. Firms operating in these markets have no choice but to deliver products that consumers want, at prices they are prepared to pay. Failure to address consumer demand will lead to those firms becoming unprofitable and, ultimately, to their demise. Flexible and responsive markets, it is argued, are the best mechanism for delivering the greatest consumer benefit.
Consumer sovereignty in turn requires informed consumers with the capacity to act in their own best interests and to choose between products on offer. It also requires credit providers to be relatively powerless, and unable to shape the conditions and terms on which credit is available. A key current public policy issue is how to ensure that consumers are well informed and have the capacity to make effective evaluations of products on offer. Equally important is how best to protect the interests of consumers trying to make informed choices in markets involving complex and technical information which might be beyond their capacity to understand.
While on the one hand the explosion in the number of credit providers and available products certainly points to there being a competitive market, the very complexity of the products on offer means that there is an asymmetry of knowledge between consumers and providers. That is, providers have specialists who develop and sell these products and have an intimate knowledge of how they operate. Consumers, on the other hand, often have low levels of financial literacy and many make consumer credit decisions very rarely.
One recent means of addressing the supposed asymmetry of knowledge between finance providers and consumers in the Australian context has been the introduction of mandatory comparison rates (MCRs). This is a method of measuring the total cost of a fixed term loan, including interest and all fees and charges, by using a single percentage rate. This, it is argued, enables consumers to more easily compare the overall cost of loan products.
This research project is an exploratory investigation of the effectiveness of mandatory comparison rates in guiding consumer choices. Mandatory comparison rates have been in force for since 1 July 2003. Originally the legislation was to sunset on 30 June 2006 but this has been postponed for a further twelve months. The Ministerial Council on Consumer Affairs will decide whether the MCR continues beyond this date and in what form, based on work undertaken in a Regulatory Impact Statement and other relevant material (including the research on which this paper is based). This project examines related fields in Australia (e.g. telephony), the application of comparison rates in other jurisdictions to gauge their effectiveness in enabling consumers to make informed choices, as well as primary research undertaken for this project.
Contents
Executive Summary
1. Introduction
2. Consumer decision making in complex markets
- 2.1 Choice and credit
2.2 Factors influencing consumer search
2.3 Implications for consumer credit
3. The introduction of the mandatory comparison rate
- 3.1 Pre-contractual disclosure and the Uniform Credit Code Review
4. Research on the impact of comparison rates and similar interventions
- 4.1 New Zealand
4.2 United Kingdom
4.3 United States
5. Relevant Australian research in the field of consumer credit
- 5.1 Consumer and Financial Literacy Taskforce
5.2 The ANZ Survey of Financial Literacy in Australia
5.3 Taking Credit: A survey of consumer behaviour in the Australian credit market
5.4 Information and consumer credit decisions (Avram 1996)
5.5 Researching the impact of psychological cues in the consumer credit market
6. Mortgage information provision in the United Kingdom
- 6.1 Comparison tables
7. Related markets in Australia
- 7.1 Health insurance
7.2 Price disclosure issues in the competitive electricity market
7.3 Superannuation
7.4 Telecommunications
7.5 Implications for the mandatory comparison rate
8. Primary research component
- 8.1 Methods
8.2 Interviews with providers
8.3 Interviews with consumer advocates
8.4 Interviews with consumers
8.5 Findings from the sample survey
8.6 Findings from the personal interviews
9. Review of the evidence and conclusion
- 9.1 Research undertaken on MCR type interventions
9.2 Related markets and other research
9.3 Primary research
9.4 Conclusion
10. Bibliography
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