7 December 2004
Speech by Clive Briault

 

Thank you for the invitation to address your annual conference. It is a great pleasure to be here.

It is, I understand, traditional for a regulator to dampen your Christmas spirits each year by warning of the risks of a downturn in house prices and the perils of the buy-to-let market. And it is, of course, part of our role to focus on potential downside risks.

Our Financial Risk Outlook – which we will publish next month - will highlight some risks that we will all need to pay close attention to. These include the potential for a housing downturn and a generally weaker economy, combined with high levels of household debt (both secured and unsecured), leading to the risk of increased numbers of households facing difficulty in repaying their debts. I will leave further speculation on house prices to the front page of the Daily Mail, while your debate this afternoon will no doubt generate a range of interesting views.

I want to focus today on the new world of mortgage regulation, which came into force at the end of October. I want to put our approach in the context of our wider retail markets agenda, and to provide a flavour of our initial supervisory priorities for mortgage lending and advice.

But let me begin by taking this opportunity to thank the Council for Mortgage Lenders and its members for the positive and constructive contributions that you have made throughout the construction of the new regime for the regulation of mortgage business. This has been a huge task, for you as well as us, and one that could not have been achieved without the active support of the mortgage industry. Of course we have not always agreed, and I am sure we will not always do so in future, but the best of working relationships always include disagreements along the way.


Transition to mortgage regulation

In the midst of the excitement and sheer hard work in introducing the new mortgage regime it is easy to lose sight of what we are seeking to achieve, and why the Government introduced statutory regulation mortgage lending and advice. We have focused throughout on designing a regime that should provide clear disclosure of information and a high quality of advice to consumers.

We have therefore designed a regime that:

  • facilitates a competitive and innovative mortgage market;

  • enables consumers to make better informed decisions by including rules on the content of mortgage advertisements and by requiring a standardised disclosure document before sale, so that consumers are better able to shop around between lenders;

  • enables consumers to receive a good standard of advice on products that should be suitable for their circumstances and needs;

  • requires provision of post-sale information, so consumers remain informed about their mortgage and are made aware of any changes in costs;

  • protects consumers when they enter into riskier transactions such as lifetime mortgages;

  • requires firms to treat consumers fairly where they fall into arrears or face possession of their property; and

  • provides consumers with access to complaint and compensation schemes.

Overall we believe that we have introduced a proportionate regime, which sets strong standards in the right areas and will generate significant benefits for consumers.

The number of firms that have been authorised demonstrates that there is a healthy amount of product and distribution capacity in the market. 7,400 firms have been directly authorised to conduct mortgage business, of which 4,500 were new authorisations and 2,900 were variations of permission for existing authorised firms; and authorised firms with a mortgage permission have a total of 12,800 appointed representatives.

We have policed our new standards throughout the authorisation process, and will continue to do so. 75% of new applications for authorisations raised issues requiring further enquiries and half required substantial investigations – many were required to take remedial action before their permission was granted; and 210 firms have either withdrawn from the application process or have received a final notice of refusal.

We have been criticised for the cost of the new regime for mortgage regulation. We have published – and consulted extensively upon - estimated costs of £3.90 a month in the first year of an average mortgage. Some lenders have since claimed that we under-estimated the systems costs that they have had to face. If we revised our estimates by doubling system costs as some have claimed we should, but otherwise leave our calculations unchanged, then as system costs are but one element of total costs our estimates could increase to around £4.20 a month.

This is equivalent to six basis points on the interest rate on an average mortgage. But it should be recognised that this estimate is deliberately on the high side, since in our calculation we spread the costs over the number of new mortgages in a single year, not the entire stock of mortgages.

On the other side of the cost benefit equation we have focused on the benefits of our regulation arising from the enhanced ability of consumers to shop around for mortgages and to choose mortgages better suited to their circumstances; and from the greater competition among lenders that should follow from consumers being better informed and better able to act as a positive force in the mortgage market. An extensive study we published in 1999 showed substantial price dispersion across similar mortgage products, suggesting considerable scope for consumers to benefit from greater competition and more shopping around.


Wider retail agenda

More generally, our approach to mortgage regulation fits neatly within our key regulatory priorities for the retail market.

We are seeking through our regulatory activities to make retail markets for financial products and services work more efficiently and effectively, and thereby to deliver through these markets a fair deal for consumers.

What does this require?

Our retail agenda is built on four pillars. I used to talk about 3 pillars, but audiences assumed I was talking about the Basel capital accord and went to sleep in eager anticipation of a two hour monologue on the validation of credit risk models.

My four pillars today are:

  • Capable and confident consumers.

  • Clear, simple and understandable information available for consumers.

  • Soundly managed and well capitalised firms who treat their customers fairly.

  • And risk based regulation


Financial capability

Increasing consumer understanding and awareness to deliver more capable and confident consumers is a key element in improving how the retail market operates.

More confident and capable financial consumers will be better equipped to exercise a stronger influence in these markets; to take greater responsibility for their own actions; and to protect themselves through less mis-buying and being less susceptible to mis-selling.

We face a huge challenge in this area due to the very low levels of financial literacy in the UK. For example a recent survey found that one third of people lack confidence in their financial affairs; only 30% could calculate a simple interest rate; and 40% do not understand mortgages or ISAs.

So what are we doing here?

We offer various information and awareness services to help consumers make informed financial decisions, including our consumer website (which was recently awarded The Times website of the week award); our comparative tables; a range of consumer publications, including guides and fact sheets on a range of topics; and our consumer contact centre.

For example, our new mortgage pack for consumers provides, in easy to follow steps, most of the information that consumers need to know about getting a mortgage. It explains the types of mortgages and interest rate deals that are on offer; sets out what consumers should look out for in the new Key Facts documents and how these documents can help them to shop around; and encourages consumers to consider how much they can afford to borrow.

We also lead and coordinate the National Strategy for Financial Capability. This is a long term, ambitious project – involving numerous stakeholders including the industry and the government who also share our interest in this subject – that aims to deliver a step change in financial literacy.

A number of working groups have been established to deliver the financial capability strategy. These groups focus on schools, young adults, borrowing, workplace, retirement, families, and generic advice. The groups are already generating a range of ideas and proposals.

The borrowing group – chaired by your Director General, Michael Coogan – is developing messages to help consumers understand affordability in relation to borrowing, and is developing tools to help consumers to identify their own credit position and in particular whether they are 'on the brink' of credit problems.

This strategy for financial capability is a huge challenge. To be a success, we will need to reach millions of individuals across the country and persuade each of them to learn more about personal finance, and to be willing to apply these skills and knowledge in their day-to-day financial decisions.

So financial capability will continue to be a key priority for us over many years to come.


Information

Moving on to the second component of an effective retail market, we want consumers to have access to simple, clear and understandable information to help them make financial decisions. Disclosure of clear information – in particular through Key Facts documents and through firms' financial promotions - is a critical element of the new mortgage regime.

We have started to review some examples of Key Facts documents to assess how our new rules are being applied in practice. Our initial focus has been on the major mortgage lenders. The layout and clarity of most of these documents is good, and we welcome the efforts that these lenders have made. However, and as has been the subject of some discussion in the market, the length of these documents varies dramatically, from just over three pages to double figures.

Of course, more complex products require greater explanation and thus a longer Key Facts document. But not all of the longer documents apply to more complex products. And the problem with length is that it discourages consumers from reading the document in the first place and tends to obscure the key elements of information within unnecessary detail. This is an area where "less is more" and we are discussing with some firms how they can achieve this.

More generally, the new Key Facts brand and logo is a critical component of our efforts to improve the clarity of information available to consumers. Having begun with mortgages – so you are leading the way again – we will be rolling out the Key Facts approach to general insurance next month and to a wide range of investment products during the course of next year.

We are promoting the new Key Facts logo to consumers through a consumer awareness campaign, which will include on-line advertising; press adverts; and posters and leaflets which will be displayed in Citizens Advice Bureaux and other locations. And of course we are relying heavily on firms and trade bodies to help us to explain the importance of Key Facts documents to consumers.


Treating customers fairly

The third core strand of our work to achieve more efficient and effective markets in retail financial services and products focuses on the supply side of these markets – the industry.

We believe that it must be right to complement our increasing emphasis on financial capability, and on the provision of clear and simple information, with the responsible treatment of consumers by firms, as required by the sixth of our eleven core principles for businesses.

Relying on our general regulatory philosophy of the responsibility of senior management, we are therefore looking to senior managers to embed the principle of Treating Customers Fairly in their corporate strategy and to build it into their firm's culture and day to day operations.

Clearly, the definition of fairness will vary depending on industry sector and customer type. And the word "fairness" leads many commentators to think immediately of pricing and charging structures. But we have found it useful to begin by thinking about what we call the product life cycle. Our initial focus has been on life and investment products, but much of this applies equally to mortgages.

Let me offer you some examples to illustrate our approach to treating customers fairly. The senior management of mortgage lenders should be asking themselves:

First, when you design and develop new products, do you consider which types of consumer they are most likely to be suitable for, and – equally importantly – which types of consumer they are not likely to be suitable for? Do you undertake any testing of this? And do you ensure that your views on suitability are communicated to those who sell and advise upon these products, be they your own branch staff or sales force, or independent intermediaries?

Second, in promoting these products, are your promotional materials clear, fair, balanced and not misleading? Will these materials be easily understood by consumers and by all those involved in the distribution chain? Do you also consider what information should be provided to consumers after the point of sale, and how to make this readily understood? What information and advice do you provide to customers likely to face shortfalls in their endowment policies, and how actively do you encourage them to review their situation and consider what action to take? We believe it is in the industry's interests to take early action in these situations.

Third, how do you remunerate your staff who sell or advise upon mortgages? Does this remuneration take into account the quality of the advice given or sales made, and customer satisfaction, rather than simply on the volume of sales?

Fourth, do you handle complaints fairly?

In April 2002 we wrote to the CEOs of banks, product providers and IFAs in the mortgage endowment market outlining serious concerns as to the way mortgage endowment complaints were being handled. Since then, most firms have made progress, particularly on the speed of complaint handling. But our work – and the experience of the FOS in looking at detailed cases – has highlighted that there continue to be significant shortcomings in some areas and the FOS is also receiving and upholding a very large number of complaints from the customers of some firms. Walter Merricks will talk in more detail about some of the issues the FOS is encountering in a moment. For our part, addressing these issues and ensuring that firms handle complaints properly is core to our approach to the endowments issue and we are actively pursuing these issues with the firms concerned.

And finally, do you have any management information that tells you how well you are doing against these treating customers fairly issues, and whether your approach has been embedded throughout your organisation?

We are currently undertaking cluster work on some of the elements of the product life-cycle. One outcome of this work will be to develop a series of “case studies of good practice” which we and the industry can use as a form of “benchmark guidance” on what constitutes the fair treatment of customers. We have established a Consultative Group – of which the CML is a member – to help us to draw out these case studies of good practice from our existing and proposed work.

This is not about introducing ever increasing 'best practice' standards. We believe that the industry as a whole should be applying the treating customers fairly principle in a consistent and acceptable way. If some firms want to compete by offering a higher standard of service and treatment, that is a matter for them.

We want to make progress here without writing ever more detailed rules, and without having to resort to more detailed monitoring or tougher enforcement actions. Ever more intrusive regulation would almost certainly create more defensive and costly markets for retail financial services and products, and thus markets that are smaller and less innovative. This would not be in the best interests of either firms or consumers.

We would therefore much prefer to rely more on an intelligent, thoughtful and effective implementation by firms of the high level principle that they must treat their customers fairly.


Regulation

The fourth pillar of our approach is risk-based regulation. And an important aspect of this in our new mortgage regime is the choice of the initial priorities on which we will be focusing our supervision. These are policing the perimeter; financial promotions; product disclosure; lifetime mortgages; regulatory returns; and following up information gained through the authorisation process.

An early priority for us will be to enforce the perimeter of the new mortgage regime and to crack down on any firms that are carrying out unauthorised mortgage business.

We have already started to review a wide variety of financial promotions, and we will focus on making sure that the mass market material distributed by mortgage lenders is clear, fair, balanced, and not misleading. We will also pay close attention to higher risk areas such as lifetime mortgages, sub-prime lending and debt consolidation. We will be visiting some firms to review their marketing strategies in these product areas.

As I mentioned earlier, we have already begun looking at the product disclosure documentation being produced by the market. We will be focusing here on whether the documents contain the information prescribed in the rules, and whether they are issued to consumers at the right time, with adequate explanation. We expect to use mystery shopping to establish whether consumers have access to the documents at the right time.

We have already flagged lifetime mortgages as a priority area as these are higher risk products. So we will be paying particular attention to these products within our work on financial promotions and product disclosure. I know that the CML has been doing good work with lenders who offer these products to raise standards ahead of regulation.

As you all know, the Government has decided in principle to give us responsibility for regulating home reversion schemes. The legislative timetable will determine when we can take on this responsibility.

We have substantially revamped our data collection as part of creating an efficient means of regulating a diverse market containing many smaller firms. Later in 2005, once the new returns start to be submitted, we will be looking at their quality. This will include a random sampling exercise.

Finally, we will be looking at issues arising from the authorisation process across a range of firms and on a thematic basis.

For those of you who haven't yet made it to paragraph 3.124 of the Chancellor's Pre-Budget Report, let me also tell you what steps we intend to take in response to the recommendations in the Miles Report.

In considering these recommendations we have taken account of the changes already introduced by the new statutory regulation and by our own rules and guidance on mortgages. On financial capability, we have already reviewed our consumer education materials as part of the new regulatory regime for mortgages. We now provide an up-dated fact sheet on affordability, which includes information on the potential impact of interest rate risk, and a new fact sheet on mortgage switching. This is complemented by the more general work of the Financial Capability working group on borrowing.

On measures relating to the provision of advice and to the disclosures provided by firms to consumers, we are committed to starting a review of the effectiveness of the new regulatory regime by the end of 2005. This review will also consider the changes suggested by Professor Miles. Any changes we propose will be consulted upon in the normal way. And we are committed to considering in due course Professor Miles' recommendations on the use by lenders of cross-subsidy within their mortgage books.


Conclusions

My message to you this morning is that I believe that we have put in place a proportionate and effective regime for mortgage regulation that will bring significant benefits for consumers, in particular through the clarity of information and the quality of the advice available to them. In addition, we will be seeking to ensure that firms deliver a fair deal for consumers by including the mortgage market within our initiative on treating customers fairly and by pursuing the supervisory priorities we have identified for the mortgage market.

To this end I look forward to a successful continuation of the close working relationship that we have developed with the Council of Mortgage Lenders and its members.

Thank you.

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