Disclosure: Is it really necessary?

Consumer protection, financial literacy, and better disclosure are all topics much talked about now. Some argue that the world would not be in the present financial crisis if only people knew how much lenders were really charging them. If only people understood what compounded interest rate meant; or if regulators checked what lenders were selling to their customers. But would it really make a difference? Should we be enhancing disclosure requirements, ramping up supervision, and funding financial literacy programs now?

I’ve heard the same thing from lenders in Azerbaijan, Peru, and Kenya: it wouldn’t make any difference if people knew what they are getting into. My counterparts seem convinced that people only learn the hard way. Only after they get hit by penalties and fines and face a debt collector will people become more cautious about borrowing, they say.

Imposing disclosure requirements is viewed as a needless burden: extra text to be printed in the documents that no one bothers to read anyway. In support of this view, lenders in emerging markets would point to the U.S. as an example – all the loan details were written in plain English in loan contracts – and did that make any difference? It does not seem like it.

Obviously disclosure will not solve all of our problems and prevent future crises. But those pointing to its ineffectiveness, especially coming from countries with no disclosure requirements at all, are wrong. Naturally, lenders will continue to try to make terms less clear and hide charges. Of course every individual on the planet will not educate him or herself about all the intricacies of finance. But regulation leveling the playing field and requiring lenders to tell borrowers in clear language the truth about costs and terms is a must. So is making it clear that it’s an individual’s responsibility to protect his or her financial interest – not the lender’s (contrary to what financial industry advertisements say).

Disclosure is essential for sustainable credit growth. As the graph shows (from “Banking the Poor”), countries with more comprehensive disclosure requirements tend to have easier access to finance.