The consequence of the financial crisis is a change in consumer protection in the financial market, which so far has played a secondary role in the introduced regulatory standards and supervisory practices.
The global financial crisis has highlighted the need for more effective consumer protection and financial literacy – the aim is to ensure the long-term sustainability of the global financial system. The supervisory and control bodies have thus strengthened the regulatory framework for the protection of consumers of financial services, revised institutional arrangements, and put more emphasis on economic and financial education.
Consumer confidence in a well-functioning financial services market promotes financial stability, growth, efficiency and innovation in the long term. Consumer protection is increasingly becoming one of the main objectives beyond the financial stability of supervisory institutions.
Appropriate consumer protection standards also minimize the risks which financial institutions bear themselves. The Basel Committee for Banking Supervision shows that the financial institution is exposed, among others, to:
- The short-term liquidity risk and long-term solvency risk, where an unfairly treated customer withdraws his/her assets from a financial institution;
- The risk of contagion, which is connected to the possibility of a reputation loss also by other financial institutions if the consumer’s confidence is lost, which can cause a banking panic and endanger the stability of the financial system;
- The legal risk associated with the penalties imposed by the regulator or a compensation paid to consumers for the use of unfair practices in the creation or sale of financial products and services.
Currently, around the world, processes that are underway should develop new rules and practices to promote improved consumer protection of financial services. The changes were launched at the G20 summit in Seoul in 2010, where participants called for a stronger protection of consumer interests on the financial markets.
Following this, under the Dodd-Frank Act of 2010, the United States established the Federal Deposit Insurance Corporation, FDIC. Three years later a similar solution was adopted in the United Kingdom, creating a separate supervisory body to protect the interests of financial services consumers – the Financial Conduct Authority, FCA.
In the European Union, Articles 114 and 169 of the Treaty on the Functioning of the European Union are the legal basis for the protection of consumers, including financial ones, from which the Community’s commitment to promoting consumers’ right to information, education and organization in order to preserve their interests is derived.
Consumer protection and information also fall under the main aspects of Community legislation in financial services. The issue of increasing consumer confidence and strengthening their position is discussed in the Green Paper on Retail Financial Services in the Single Market.
Many EU Member States have transposed EU directives relating to the protection of consumers of financial services to the national law (this includes the Markets for Financial Instruments Directive (MIFID), the Consumer Credit Directive, and the Payments Directive). The issues of consumer protection have been reflected in the new Community institutions created in 2011 by the European Supervisory Authorities (ESAS), which consist of the European Systemic Risk Board (ESRB), the European Banking Authority (EBA), the European Insurance and Occupational Pensions Authority (EIOPA) and the European Securities and Markets Authority, (ESMA).
The World Bank is also actively involved in the creation of new rules. As early as in November 2010, it launched a global program for consumer protection and financial literacy, two years later it developed good practices for consumer financial protection, and since then it has conducted a Global Survey on Consumer Protection and Financial Literacy.
The results of the latest World Bank global survey from 2014 indicate that the implementation of new solutions in different countries is uneven. Not all countries have implemented consumer protection regulations, and in countries where new regulations have been introduced, they are not sufficiently and consistently applied and enforced.
Measures are also taken to increase the economic and financial knowledge of market participants. The role of education is increasing. Research shows that even under conditions of full disclosure, many consumers of financial services are unable to make proper and reasonable decisions, and the level of personal finance management skills is generally directly related to the level of knowledge of the underlying financial categories. The proper management of personal finances by consumers should be regarded as a key factor to help prevent excessive debt and financial exclusion.
The European Commission shows that economic and financial education should be complementary to legal and regulatory measures designed to provide consumers with relevant information and adequate protection.
Today, consumer protection is mainly based on reporting obligations. The next step may be to increase the role of public authorities in promoting both collective and individual consumer interests.
Central banks are beginning to play an increasingly active role in protecting financial services’ consumers. This is primarily due to their desire to preserve the stability of the financial system. From the perspective of central banks, maintaining financial stability is particularly important given the need to maintain price stability. The financial system plays a key role in the transmission of monetary impulses to the real world, and its instability may hinder the effective conduct of monetary policy. Thus, both objectives complement each other in the long run, affecting the functioning of the entire economy, including all financial market participants.
The actions of central banks in the area of consumer protection in the financial market indirectly carry out macro-prudential policy – by identifying and mitigating systemic risk, i.e. in particular systemically important economic imbalances, excessive concentration of exposures and financing among financial institutions, and interdependencies and linkages between financial market entities – and directly, through micro-prudential policy, whose primary purpose is to prevent insolvency of individual financial institutions.
Some central banks (e.g. in the Czech Republic, Hungary, Lithuania, Portugal and Slovakia) are both micro and macro-prudential supervisors, so they are not only knowledgeable about the stability of individual financial institutions but also of the entire financial sector, which may support effective consumer protection of financial products and services.
Additionally, central banks undertake economic education activities, including financial education, by running online education services, training or educational projects targeted at different social groups. Some of them – such as the central bank of Portugal – participate in the National Plan for Financial Education, promoted with other financial supervisory authorities and in cooperation with many stakeholders (including ministries, financial sector associations, consumer associations, business associations and commerce associations). Such actions contribute to improved efficiency, transparency and competitiveness in the financial markets, whilst better educated citizens can also indirectly support the monitoring of financial markets, thus supplementing supervision.
The central bank of Slovakia is an important example. Since January 2015, it has been the consumer protection authority and therefore oversees the protection of financial services consumer rights.
Central banks, as independent institutions of public trust, are particularly interested in maintaining price and financial stability, promoting sustainable economic growth, and thus directly affecting the protection of market participants, including consumers of financial products and services.
Milena Kabza, PhD, works at the Poland’s central bank, NBP Financial Stability Department. The article presents only the views of the author and is not an expression of the official position of NBP.