New research has revealed the deep flaws in disclosure-based regulations, with examples from the US, UK, Europe, and Australia showing that relying on disclosures often fails to prevent harm to consumers — and can, in some cases, cause them harm.
Suitability in financial advice is the answer to the many problems associated with disclosure-based regimes. Suitability gives investors a level of protections that ‘let the buyer beware’ disclosure never could.
The idea of disclosure-based regulation is that people will make the right decision, provided they are given enough relevant information. In theory, that sounds good. But in practice, it usually played out very differently. Often, the investor was hit with hundreds of pages of disclosures that they could barely understand.
This new research shows just how bad the problems around disclosure can be:
1. Disclosure doesn’t fix complexity
Financial decisions are complicated and difficult; simplifying disclosure does not reduce that complexity. Some firms even make their products and processes complex by design though bundling or confusing discounts. There’s also a range of contextual and emotional issues to be considered.
This is a map of the issues that come up when considering insurance that highlights the complexity of making an informed decision with respect to this financial product:
2. Customers are often not paying attention to disclosure
It must compete for their attentions, which are usually elsewhere. And we know that most people don’t bother reading the ‘fine print’ — they are more likely to simply be captivated by the marketing promise.
3. Disclosure means different things to different people
Not only do people differ in the way they interpret information, the context in which it is presented can also influence its interpretation. But disclosure is designed as ‘one-size-fits-all’.
This is the wide variety of ways that people approach choosing:
4. Disclosure can backfire unexpectedly
People may react to the disclosure in unexpected ways — at its worst, creating detrimental outcomes for consumers.
For example, including minimum credit-card payments in bills can reduce the payments people choose to make. Researchers at the FCA (UK) have found that removing the minimum repayment amount from manual repayment screens (which is not part of mandatory disclosure) had a large positive effect in two online hypothetical experiments, significantly increasing the value of repayments made.
5. Warnings to consumers often don’t work
People are prone to ignoring, overlooking, or misunderstanding many common warnings designed to protect them.
For example, Dutch credit providers must include the warning ‘Caution! Borrowing money costs money’ in advertisements for consumer credit. The warning was intended to:
- Create awareness among consumers by pointing out the consequences of the credit
- Counter the image presented in some of the credit advertisements that borrowing for consumer purchases is perfectly normal
- Encourage consumers to carefully consider their choices.
Empirical research established that the credit warning had no short-term effects on the behavior of consumers, or the way that they experienced the advertisements. The experiment did not show that the credit warning had any influence on the frequency with which consumers clicked on website banners, the way in which they browsed online, or the choices that they made when requesting a quote. This suggests that, at least in the short term, the warning was not influencing behavior.
The report is a joint publication of the Australian Securities and Investments Commission (ASIC) and the Dutch Authority for Financial Markets (AFM). It includes 33 case-studies illustrating the failures drawn from United States, United Kingdom, the Netherlands and Australia.
The full report can be downloaded here: https://download.asic.gov.au/media/5303322/rep632-published-14-october-2019.pdf