Dr Dodsworth (with Dr Bisping from Warwick University) react to the FCA's recent proposal for the loyalty penalty

The Financial Conduct Authority have recently published their report on the loyalty penalty. The problem identified by the FCA is similar to the one that The Domestic Energy Gas & Electricity (Price Cap) Act 2018 tried to address by requiring the energy regulator Ofgem to impose a cap on the domestic, standard variable price of energy. The stated aim of the act was to avoid the ‘overcharging’ of consumers due to a lack of competition in the energy market. The fear was that customers who remained loyal to their suppliers without switching were being exploited by having to pay significantly more than if they had switched to a fixed term deal with the same supplier. Our research has since shown (Dodsworth and Bisping, Energy Price Cap – a Disservice to Consumers (2019) 8 Journal of European Consumer and Market Law, issue 2, pp 53–64) that there is no lack of competition in the market. In fact, it was predicted that the imposition of the price cap would reduce competition because all suppliers would set their standard variable tariff to the price set in the cap. This has in fact occurred.

To solve the problem of protecting vulnerable consumers from exploitation we suggested a two-pronged approach by regulating the contractual renewal process. First, this would mean that the supplier would have the opportunity to either cancel the contract or to continue the supply on the same tariff. The advantage would be long-term thinking by energy suppliers without giving up on the ability to innovate with their tariffs. Second, it would be easier to identify potentially vulnerable consumers that do not engage in the market.

The FCA is now interfering in a market where consumers are much more willing to change provider as it is. Those who remain with the same supplier without switching their insurance end up paying significantly more than if they had switched to a different supplier or asked their existing supplier to match another supplier’s quote. However, the FCA has not decided to follow Ofgem’s route and is instead suggesting that insurance suppliers should not be allowed to increase their price, once the policy has ended, above that being offered to new customers.

The suggestions by the FCA is a significant improvement on Ofgem’s approach in that it is a lesser infringement of the principle of freedom of contract. It is closer to our suggestion for reform that we developed for the energy market. However, the difference in approach to our proposal may have unintended consequences. First, the FCA’s approach is likely to limit the number of innovative tariffs offered by insurance companies since there is no way for them to test the waters without being committed for the long term or they may introduce such a high number of tariffs (as was the case on the energy market) in order to avoid the restrictions. Second, insurance companies may split their operations into separate companies to circumvent the rule. Third, it does not have the added advantage of identifying vulnerable consumers. Finally, unlike in the energy sector, there is no default tariff on which the parties could fall back to. This means that it is difficult to control the pricing levels of insurance products and compare the fairness of the offer.