The Office of Fair Trading has asked the Competition Commission to conduct a review into competition among payday lenders.
The OFT called for the review after finding evidence that a lack of choice means firms are profiting from loans that can’t be paid back on time.
Clive Maxwell, chief executive of the OFT, said: “We have seen evidence of financial loss and personal distress to many people.
“The Competition Commission can now conduct a detailed investigation to get to the root causes and, if necessary, use its far reaching powers to fix the payday lending market.”
The OFT said it was difficult for customers to identify and compare the cost of loans, that not all firms complied with relevant laws and that a significant proportion of borrowers had poor credit histories and limited access to other forms of credit.
It said lenders were competing primarily on the availability and speed of loans rather than on the price of paying them back.
In March the OFT gave Britain’s biggest 50 payday lenders 12 weeks to change their business practices or risk losing their licenses after finding evidence of widespread irresponsible lending.
It said it had so far received responses from only 20 of the lenders, five of which have stopped offering the loans.
Caroline Siarkiewicz, head of the UK debt advice programme at the Money Advice Service, welcomed the OFT’s referral of the sector to the commission.
Siarkiewicz: “We believe that this provides a real opportunity to root out any irresponsible and detrimental practices in this area of the unsecured lending market and safeguard consumers.
“I urge anyone considering taking credit through a payday loan company to use our free, impartial resources first, before they make a decision.
“We have plenty of straight forward advice that will quickly help them make an informed choice.
“Spending just ten minutes on our website to get the real facts could save someone from making an expensive mistake that has a lasting and detrimental impact on their life.”