Imperfect information – are equity release schemes being mis-sold?

The consumer watchdog group Which? has criticized the advertising of housing equity release schemes which they claim can be very expensive and inflexible leaving homeowners, and especially older property owners, with virtually no equity in their properties later on in their life.

Which? claims that, for example, borrowing £80,000 through a lump sum equity release scheme on a £350,000 property could end up costing £256,570 after 20 years or £343,350 after 25 years. Although the equity release schemes give property-owners the cash (or liquidity) that might be needed to meet short term spending needs, Which claims that such schemes are incredible expensive and that downsizing your property or even borrowing money from family is a much better option.

Which? believe some suppliers of equity release schemes have engaged in irresponsible advertising which can lead to a miss-selling of the product. Norwich Union, for example, suggests its scheme could pay for a trip to New York or 'something for the family'.

Source: Adapted from the Which? Website

Health warnings for snacks in bid to improve consumer information

The food industry has made its first move towards issuing health warnings for snack foods. The decision comes as food companies come under in-creasing pressure to provide more information about the nutritional value of their products amid concern about rising levels of obesity. It marks a shift in the food industry’s attitude towards consumers. Food companies have argued that consumer education is not their job. However, the threat of legislation to regulate the promotion of food to children has prompted the food and drink industry to become more proactive. The European Commission released a green paper in December questioning whether companies’ self-regulation for the marketing of sugary snacks and soft drinks was “adequate”. Last month, soft drink producers agreed to a voluntary ban on advertising to children in Europe. They also said they would provide better nutritional information on beverages and public education campaigns to promote healthy lifestyles.

Food and drink manufacturers have already made efforts to cut down on fats, salts and sugars, and provide more nutritional information. This week, Walkers crisps said it had made a multimillion pound investment in sun seed oil to reduce levels of saturated fats. Last month, Nestlé said it would put calorie information on the front of confectionery packets.

Source: Adapted from news reports, February 2006

The Market for Lemons

Take problem of buying a used car. Assume that used cars come in two types: those that are in good repair, and duds (or “lemons” as Americans and most economists call them). Suppose further that used-car shoppers would be prepared to pay $20,000 for a good one and $10,000 for a lemon. As for the sellers, lemon-owners require $8,000 to part with their old banger, while the one-owner, careful-driver old lady with the well-maintained estate won't part with hers for less than $17,000. If buyers had the information to tell wheat from chaff, they could strike fair trades with the sellers, the old lady getting a high price and the lemon-owner rather less.

If buyers cannot spot the quality difference, though, as is often the case in the real world, there will be only one market for all used cars, and buyers will be ready to pay only the average price of a good car and a lemon, or $15,000. This is below the $17,000 that good-car owners require; so they will exit the market, leaving only bad cars. This result, when bad quality pushes good quality from the market because of an information gap, is known as “adverse selection”. This was the simple but powerful insight of George Akerlof, now a professor at the University of Berkeley in California, in a seminal 1970 paper. A great many markets, including those for shares, labour, insurance and banking, often resemble a used-car sale more closely than a McDonald's restaurant.

Adapted from the Economist, October 2001