It is clear that the banking and financial problems which have dominated the media since last year continue to cloud the economy and the wider business climate. What seemed like a problem localised last September to the North West of England, and caused by an even more remote US practice of pouring tons of dollars into the rather unpleasantly named ‘sub-prime mortgages’, was in reality the tip of a massive iceberg of financial poor practice and greed. The crisis is truly global but Britain’s four million or more very small businesses and self-employed appear to be particularly vulnerable.

Quarterly surveys conducted by the Small Enterprise Research Team (SERTeam), the independent small business research charity that is based in the OU business school (OUBS), revealed in the third quarter 2007 that, while less than one in five small firms had formal term loans from their banks, more than half were exposed to more volatile forms of credit such as overdrafts (28 per cent), credit cards (17 per cent) and re-mortgages (13 per cent). At that time, the economy seemed quite buoyant and small firm owners were more concerned about regulations and red-tape than they were about the state of the economy. By the final quarter of 2007, however, 30 per cent reported that they had been directly affected by the credit crunch, 60 per cent reported indirect effects (from customers, suppliers, and so on) and a very large majority of 85 per cent expected an economic slowdown, including one third who predicted a full recession.

Falling profits.
[Photo © Photos.com]

In fact, the current credit and property crisis has been building up almost unnoticed for some time. British Bankers Association (BBA) figures clearly show a sharp decrease in home purchases starting from December 2006. By March this year, home mortgage approvals were down to 35,417, less than half the December 2006 level and down more than 46 per cent on the previous March. The Council of Mortgage Lenders and the Federation of Master Builders confirm that, as mortgages become more expensive, house prices are on the way down. The Royal Institution of Chartered Surveyors (RICS) predicts a 40 per cent fall in house prices over the next five years. Indeed, this gloomy picture is confirmed by the Governor of the Bank of England, Mervyn King, who has warned that inflation is likely to remain two per cent over target for the next two years and that the booming ‘nice’ decade (no inflation, continuous expansion) is over.

This, of course, prompted comment that the ‘nasty’ decade is about to begin. With unemployment on the rise (the number of job seeker claimants has increased for the third month in a row), fears of a return to the ‘nasty’ early 1990s - the years of negative equity and business failures - are bound to grow. With private debt in Britain of some £1.4 trillion, British businesses and citizens are the most indebted in Europe (and, per capita, more in hock than the US). The UK accounts for one third of all EU credit card debt. Although an important source of business finance, particularly for the self-employed, this is very exposed to rises in interest rates and bank charges. Whether or not we are heading towards a repeat of the 1990s or worse, time will tell. What we do know now is that currently the sectors most at risk from the credit squeeze are the construction, financial and property-related/business services sectors (real estate agencies, surveyors, domestic repairs and so on).

Overwhelmingly self-employed or microfirms, they represent 44 per cent of all UK firms and some 28 per cent of all employment. The SERTeam Quarterly Surveys already show falling sales and employment in these sectors which will contribute to falling overall demand and spillover effects into other sectors. However, many of the smaller firms have shown in the past that they can be very resilient in recessions. They cut costs, reduce capacity and the larger ones do shed staff. The Quarterly Surveys conducted during the recession of the early 1990s revealed that owners tend to tighten their own belts first, cutting their own takings, and that they are reluctant to shed core staff (who, after all, may be family members). They keep their businesses ticking over, waiting for a change in fortunes when the recovery arrives, as eventually it must.

About the author

Colin Gray is Professor of Enterprise Development at the OU Business School, where he is responsible for research and teaching in small business and entrepreneurship.

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Have you ever been at the wrong end of a penalty charge, imposed by your bank, for a letter sent about a breach of your overdraft limit or a bounced cheque? Thousands of customers have had this experience and now the mood is turning from anger to revolt about the scale of these charges.

Estimates of the UK banks’ earnings from penalty charges vary widely but The Times puts the figure at close to £5 billion per year.

Some groups are claiming that the charges are unlawful, being set at levels that breach the 1999 Unfair Terms in Consumer Contracts Regulations (UTCCRs). Mike Dailly of the Govan Law Centre, supported by Citizens Advice in Scotland, claims that banks can only recover the amount of money they have actually lost as a result of a customer doing something wrong – they cannot impose penalties or fines.

Activists have pointed to the report on credit card charges by the Office of Fair Trading (OFT) in April 2006. This recommended a maximum for default charges of £12. In examining what is a fair level, the OFT reviewed not only the UTCCRs but also the legal precedents covering damages for breaches of contract. The OFT concluded that "default fees have been set at a significantly higher level than is fair for the purposes of the UTCCRs".

"UK banks could earn £5 billion a year from penalty charges"

The Consumer Action Group, a consumer body promoting action against bank charges which has over 13,000 members, claims that the OFT’s findings on credit cards set a precedent for penalties for bank account breaches. Indeed, the OFT itself said that it expects the principles it had used to be applied to other bank charges. The Group recommends that customers take action in the small claims court to reclaim excess charges.

Martin Lewis of moneysavingexpert.com – where the bank charges discussion board has notched up 41,000 consumer postings – claims that we are seeing a consumer revolution, with thousands of customers demanding refunds.

A number of sites advising on the reclaiming of charges, going back up to the maximum of six years allowed under the 1980 Limitation Act, now exist on the internet. Many customers have already been successful in reclaiming bank charges - such as Laura Saunders of St Ives in Cornwall who successfully challenged the Yorkshire Bank over charges amounting to £922 in a County Court ‘test case’ in 2005.

Such successes to date may, though, simply be attributable to the banks’ failure to defend the actions.

So are the customers who incur these charges at the wrong end of a banking ‘rip-off’? Not so say the banks. They disagree with the OFT’s legal reasoning on credit card charges and they, along with the British Bankers’ Association, reject the notion that the same principles apply to other bank charges. Notification of contract terms is supplied to customers and the banks claim that charging for breaches of the contract terms is lawful.

And as regards the scale of the charges – the banks say it represents the appropriate economic costing for the action being taken. So says Ian Mullen, Chief Executive of the British Bankers association (BBA), who claims that the process of dealing with customers who have breached overdraft limits involves manual intervention – and is not just computer processed – with the result that the charges levied reflect the costs actually incurred by the banks.

Additionally banks would argue that, elsewhere, they do not charge customers for the economic costs associated with their bank accounts. For example, close to 95% of ATM transactions are still free - in contrast to the United States where around 40% are charged. In many parts of Europe customers pay an annual fee of as much as €50 for the provision of a bank account .

So what does the future hold for these bank penalty charges?

Currently the OFT is investigating whether it should now impose a cap on unauthorised overdraft charges. Some banks, perhaps in reaction, are now considering re-introducing charges to customers for providing bank accounts as this would help to claw back the lost earnings if overdraft charges were to be capped.

In November 2006 First Direct, the online banking arm of HSBC, announced that it is planning to introduce a £10 monthly charge for all customers who neither place a minimum of £1,500 of earnings into their account each month nor hold a minimum average balance in the account of £1,500.

So the outcry about overdraft charges could end up triggering the end of free current account banking in this country.

Further reading

• Are penalty charges bank robbery? – The Money Programme investigates penalty charges
• Calling companies to account – big business has a reputation for abusing its power, so how can we call companies to account?
• New Fees signal an end to free banking in The Times on 15th November 2006
• Calculating fair default charges in credit card contracts: A statement of the OFT’s position, OFT842 April 2006
• Nationwide warns MPs of threat to free cash machine network – Nationwide press release 10th February 2005
• Personal Finance edited by George Callaghan, Ian Fribbance and Martin Higginson, published by John Wiley & Sons
• The Consumer Action Group
• Govan Legal Centre bank charges campaign
• Martin Lewis's Moneysavingexpert website

About the author

Martin Upton is lecturer in finance at the OU Business School. Previously he spent 20 years in treasury management, including 12 years as Treasurer of Nationwide Building Society. Martin's particular interests are financial services, the housing market, financial markets and risk management.

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