In Malaysia, moneylending, an activity of lending money with interest, with or without security by a licensed moneylender to a borrower, as defined by the Moneylenders Act 1951 are often confused with loan sharking. Contrary to money lending, loan sharking, as defined by a simple Wikipedia search, is an illegal activity of offering loans at extremely high interest rates and one that enforces repayment by blackmailing or threats of violence either by a person or a corporate body. This confusion remains in all spectrum of the society, negatively tainting the reputation of the licensed money lending industry and the effectiveness and efficiency of the present institutional structure to protect borrowers of such informal financing.
Despite such negativities and the destabilizing economics effects that the industry may cause for staying beyond the regulatory scope of the national financial system, informal financing cannot be totally erased. Researches from multilateral organizations such as the Consultative Group to Assist the Poor (CGAP) and academia highlight the role of informal financing in facilitating private sector growth and for the livelihood of communities that falls beyond the radar of formal financial system. Nevertheless, initiatives to protect borrowers of informal financing from unscrupulous lenders must be emphasized. The Malaysian Moneylenders Act 1951 serves such purpose.
Since its enactment, the Act has been revised and amended several times with the objective to further protect the interest of borrowers and to prevent loan sharking activities. The latest amendments made in 2003 and 2011 respectively have such focus and are based on two key themes – tighter licensing regime and increased enforcement authority of the police force. Despite these efforts, loan sharking are still rampant and many borrowers and their family members still fall victim to the physical, mental and emotional threats and violence of loan sharks. Thus, question arises if the present regulatory approach itself is effective and efficient in protecting the interest of the money lending borrowers.
Tighter licensing regime
Since the enactment of the Moneylenders Act in 1951, the institutional governance of the moneylending business has evolved from a decentralized to a centralized structure. Initial administrative decentralization allowed local authorities to evaluate, administer and grant money lending licenses. Whilst such democratization process in the early days permitted efficient fiscal management and empowered the local administrations to grow the money lending industry in a contained environment, however, a research by Universiti Putra Malaysia in 2009 proved otherwise. Despite the growth in the money lending industry, the research cited that local authorities are constantly challenged with administrative discrepancies and failed to implement efficient enforcement mechanism. Such gaps allowed errant moneylenders and loan sharks to capitalize on the system.
Consequently, the Moneylenders Act was amended in 2003 and 2011 respectively to further curb errant moneylending activities and protect borrowers. Administrative decentralization was halted. Instead, the institutional governance and administration of the money lending industry was centralized under the Ministry of Urban Wellbeing, Housing and Local Government. Additionally, licensing application, maintenance and renewal requirements were further tighten. The high amount of paid-up capital required for new application, increased license renewal fee, the required submission of a statutory declaration signed by a police officer and restricted advertisements, amongst others, may have slowed the growth of the money lending industry, however, loan sharking activities do not seem deterred. In fact, the growths of loan sharking activities correspond inversely. Media reporting on harassments and threats by loan sharks are frequent and loan sharking advertisements can be found at almost every nook and corner of public properties and infrastructures.
Increasing enforcement authority of the police
Amendments made to the Moneylenders Act in 2003 mandated the Royal Malaysian Police with enforcement authorities and these powers were further increased in the revisions made in 2011. Police is authorized to investigate oral and written complaints and examine any person deemed to have or attempt to break laws in the Act. Authorization is further granted for the Police to visit, enter, inspect or search premises with or without warrant, to seize movable properties and business documents and records with or without the owner’s permission and to access comprehensible computerized data from any person to assist with its investigations. Any person arrested for committing or attempting to commit offences under this Act shall be dealt as a criminal by the Police, in accordance to the provision of the Criminal Procedure Code. These increased powers were expected to increase the existing enforcement mechanism and further deter loan sharking activities.
Nevertheless, the move to increase the enforcement authority of the Police is a double-edged sword. On one hand, the increased enforcement capacity provides the Police with greater room to combat the dynamic modus operandi of loan sharks, whilst on the other; it chokes the operations of licensed moneylenders. Presently, licensed moneylenders are burdened by heavy compliance cost and are exposed to high financial risk. Unlike commercial financial institutions that borrow from depositors to lend at market rate, licensed moneylenders offer loans out of their own capital at a rate capped by the Act. The risk of having the Police possibly halts business operations and seizes documents and properties without warrant or permission further adds to the operational risk and disadvantage the business. Often these difficulties of doing business are translated to adverse selection of loan provisions and in extreme cases, business closure, both, detrimental to borrowers that are omitted by the mainstream financial system.
Alternative approaches to protect the interest of borrowers
Presently, the command and control regulation on moneylending is ineffective and inefficient on its own. It fails to contain the presence and growth of loan sharks, generates high compliance and enforcement costs, stifles competition in the licensed money lending market and is unable to maximize community welfare. Amendments made to the Moneylending Act 1951 were weak in achieving the objective of protecting the interest of borrowers whilst creating a fair marketplace for the licensed moneylenders. Approaches such as the use of market-based mechanisms i.e. competitive interest rate determination, co-regulation with the Malaysian Licensed Moneylenders Association (MILMA) and the information method of advocacy and empowerment may provide flexible and adaptable alternatives to realizing such ideals.
Market-based mechanism: competitive price determination
The Organization for Economic Co-operation and Development (OECD) Report defines market-based mechanisms as tools developed based on market signals i.e. prices, to provide businesses and citizens with economic incentives to change or modify their behavior in ways which will achieve the government’s policy objective. These tools represent the preferences of the direct stakeholders, as market information and practices, often unknown by regulators, are drawn upon to form the market signal. Market-based mechanisms are precise in achieving policy objectives and they encourage greater compliance compared to the regulatory approach. In the money lending industry, this approach is adopted by developed countries such as Singapore and Australia. In these countries, the market price – interest rates used for moneylending activities, are competitively-determined with minimal regulatory intervention.
In Malaysia, Section 17A of the Moneylending Act 1951 fixes a ‘one size fits all’ pricing for the industry. The price for secured and unsecured loan is capped at 12 per cent per annum and 18 per cent per annum respectively. Both prices are similar to the rates charged by commercial banks for its personal financing products. Whilst such rate determination may seem equitable to both the licensed moneylenders and the borrowers, however, such regulatory intervention is in its essence inefficient and unfair. First, the modus operandi of a licensed moneylender entails high risk exposure and returns. Unlike commercial banks that generally offer financing using funds from depositors, licensed moneylenders utilize its own capital to offer financing. Thus, by capping the price, the Act fail to establish a fair marketplace as licensed moneylenders have to accept a return which is inequitable to its risk exposure and borne high direct compliance costs.
Second, majority of the borrowers will be mispriced. The rate fixed by the Act for unsecured and secured loans only commensurate the risks of selected category of borrowers and loan amount. Any borrowers or loan amount that fall outside this risk boundary will be unfairly charged. For example, borrowers taking a higher loan amount or from a weaker credit background than the selected group, will be paying a considerably cheap price and this is obtained at the expense of borrowers from the opposite end – those taking a lower amount of financing or have stronger credit status and is paying a rate higher than the commensurable risks. In this context, the regulatory intervention on price fails to achieve the objective of protecting borrower’s interest effectively and efficiently.
Pricing in the money lending industry should be competitively determined by the market based on the economic notion of supply and demand. Undistorted market-based mechanism offers a fair and equitable marketplace for both the borrowers and licensed moneylenders. Consequently it also de-motivates the establishment of illegal markets by loan sharks and discourages licensed moneylenders from resorting to unscrupulous ways of conducting business to cover themselves from excess risks. Nevertheless, to protect the interest of vulnerable borrowers, minimum regulatory intervention can still be applied, as in the case of Singapore. The Government Singapore fixed the price and the maximum loan amount that can be borrowed by a specified group of low income earners whilst all other borrowers are subjected to the competitive market price and loan amount. This specific intervention intends to protect the vulnerable from the burden of high rates and be further trapped in poverty, without distorting the conduct of its competitive market.
Co-regulate with the Malaysian Licensed Moneylenders Association (MILMA)
Co-regulation involves the explicit collaboration between a group of economic agents, for example the association of firms in a particular industry and the government, in establishing and enforcing self-regulatory instruments or code of practice that guide the activities, manner and standards of its members, as well as to monitor its compliances (OECD Report.). Generally, government’s involvement is restricted to the provision of legislative backing. Thus, co-regulation has the ability to reduce administrative burden, enhance flexibility in addressing industry-specific and consumer issues directly, improves compliance and protects the interest of consumer through complaints and dispute resolution mechanisms. Co-regulation can be perceived to be a complement to existing regulatory framework. In the context of the Malaysian licensed moneylenders industry, explicit collaboration between the Ministry of Urban Wellbeing, Housing and Local Government and MILMA to co-regulate the industry enhances borrower’s protection and prevents loan-sharking activities.
MILMA may establish an accreditation scheme supported by legislative backing to weed out errant licensed moneylenders and loan sharks. The scheme will require members of MILMA to abide by specified rules in order to be accredited and non-compliance will be penalized. The accreditation provides borrowers with information and assurance on the quality, professional competence and legality of the services provided by each licensed moneylender. Presently, borrowers can only validate the legality of a licensed moneylender by checking with the Ministry or by viewing the licensed displayed at the business premise as mandated by Section 5F of the Moneylenders Act 1951. Information on the professional competence, quality and type of services offered by the licensed moneylenders remain absent for the borrowers to make correct and appropriate choices. The accreditation schemes can address such gap as borrowers are offered additional source for reliable information and assurance.
Additionally, the Ministry may support MILMA in establishing an independent dispute resolution platform that aims to ensure equitable and fair trade for both the borrowers and the licensed moneylenders. The platform shall investigate and attempt to resolve complaints of unfair practices against members of the money lending industry. Presently such mediation avenue is absent. All complaints are directed to the Police, as provided in Section 10B of the Moneylenders Act 1951, to be investigated as criminal proceedings. This will only burden the Police and the accused licensed moneylender especially if the matter of complaint is minute such as discrepancies in the repayment schedules and hinders the objective of weeding out loan sharking activities. The independent dispute resolution platform thus acts as a complement to the Police force by taking on complaints of unfair practices and errant licensed moneylenders. This will allow the Police with more capacity to investigate on loan sharks, as intended by the Act.
Information method: advocacy and empowerment
The information method uses tools such as education, persuasion and advocacy to provide consumers with more information or to change the distribution of information with the objective of empowering them to make informed decisions. Unlike the regulatory approach that imposes a single solution on the consumers, the information method offers consumers with the flexibility to make decisions based on more and better information than would otherwise be available (OECD Report). This information, often too difficult or too costly for consumers to gather individually, can be disseminated through awareness campaigns or requirements for provision of information. The Malaysian licensed money lending industry still lacks such advocacy and empowerment efforts.
Majority of the community are still confused about licensed money lending and loan sharking, unable to comprehend financial terms and methodologies such as effective interest rates and are unaware of their rights and responsibilities as a borrower or a surety. Awareness campaigns to provide such education are almost non-existence. The lack of such education and information harms the interests of borrowers and the Ministry and MILMA needs to urgently act on it. References can be made to the practices in Singapore. There, information which empowers borrowers to make informed decisions in moneylending is disseminated by various governmental agencies and the Moneylender’s Association of Singapore. Education on effective interest rates and the responsibilities of a surety as well as information on fees, charges and steps to seek mediation assistance are easily available to the public through various media.
The final analysis
Conclusively, the Moneylenders Act 1951 on its own is ineffective and inefficient in protecting the interest of borrowers and maximizing the public’s welfare as a whole. The regulatory approach exposes borrowers to an unfair marketplace, fail to deter loan sharking activities and compound licensed moneylenders to high compliance costs and risks. Alternative approaches such as market-based instruments, co-regulation and information method should be integrated with the Act to establish an equitable market for both the borrowers and the licensed moneylenders, de-motivates illegal activities i.e. loan sharks, reduce compliance and enforcement costs, provides borrowers with access to information and empowers them to make informed decisions. Additionally, the Malaysian Licensed Moneylenders Association needs to be empowered to play a more active role. Only then, can the interest of borrowers be effectively and efficiently protected.
Adelene Teo is an alumna of the Endeavour Award and the Crawford School of Public Policy. She has years of professional experiences with the Central Bank of Malaysia and various international banks. She enjoys exploring the subject on financial inclusion at her free time.
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