Sunday, November 30, 2014
I Don't Like That We Need Payday Lenders, But We Have To Face Reality, And Reality Bites.
Are payday lenders really the loan sharks they're often made out to be? No doubt some are, but my sense of the industry as a whole is that it exists, like every other private sector entity I've ever heard of, because there's an economic need for it. Now that it looks like South Dakotans are likely to take the issue head-on at the ballot box in 2016 the status quo is likely to come under some severe attack. I get that part, but for me the post-status quo is much more worthy of consideration.
First off, I have neither a direct nor indirect interest in this industry, which I abhor but accept as a necessary adjunct to all the conventional methods of financing that we're all familiar with. Fact is, there are lots of folks in our communities that simply have no options for getting relatively small sums of cash to tide them over as necessary, either from time to time or chronically. I understand that the way their fees and charges are structured, the true interest rate on many of their loans can run to several hundred percent when annualized. The industry of course claims that the default rate on these loans is so high that the business requires these astoundingly high returns in order to make up for loan losses.
I've seen studies that both support and reject this claim, so I won't go there for now. My biggest concern with the proposed ballot issue is that by capping the interest rate these lenders can charge at 36%, the industry will virtually disappear. Indeed, one of the promoters of the initiative, GOP state rep Steve Hickey of Sioux Falls, implies as much when he says, "[The industry] had their chance to work with us and stay in business in South Dakota," referencing some proposed regulations that were discussed at this year's legislative session, ultimately rejected by the lenders. Now Hickey seems intent on a ballot measure that, by capping interest rates at 36%, won't let them "stay in business."
No doubt a lot of people are cheering this one on. But are they considering the outcomes? A 2011 study on the effects of regulating the payday lending industry by the University of Washington concludes that "Household financial security does not necessarily improve after payday lending is prohibited through rate and fee ceilings of less than 36%" and that "without access to payday loans, consumers likely use overdrafts, pawnshop loans, and late bill payment to cover short run credit needs." In other words, the absence of payday lenders causes consumers to jump out of one frying pan and into another fire. Happily, I haven't been subjected to bank overdraft fees in many a long year, but I think mine charges $39 per check. You can annualize that for yourself, but if the bounced check is on a typical household bill of a few hundred bucks or less, I'd say conventional bankers will see a windfall if Hickey's initiative passes. Same goes for pawnshops and entities like credit cards that stick consumers with late fees.
Meantime we have to consider social costs associated with the absence of payday lenders for those who are desperate for cash. Will crime increase? What about money-focused problems at home setting off family disruptions and abuse? Will people go without food, medication, even shelter?
Some support for this concern comes from a 2008 study from the Federal Reserve Bank Of New York. In its study titled "Payday Holiday: How Households Fare After Payday Credit Bans" the New York Fed concluded: "Payday loans are widely condemned as a “predatory debt trap.” We test that claim by researching how households in Georgia and North Carolina have fared since those states banned payday loans in May 2004 and December 2005. Compared with households in states where payday lending is permitted, households in Georgia have bounced more checks, complained more to the Federal Trade Commission about lenders and debt collectors, and filed for Chapter 7 bankruptcy protection at a higher rate. North Carolina households have fared about the same. This negative correlation—reduced payday credit supply, increased credit problems—contradicts the debt trap critique of payday lending, but is consistent with the hypothesis that payday credit is preferable to substitutes such as the bounced-check “protection” sold by credit unions and banks or loans from pawnshops."
Get that? "Payday credit is preferable to substitutes." It's true that the South Dakota initiative wouldn't "ban" payday lending, but as Hickey himself understands (and as that UW study concludes), it would be a de facto end to the industry in this state, where it couldn't survive with a 36% rate cap. Much as I admire Representative Hickey's good faith effort at trying to protect some of our most financially vulnerable citizens, the consequences of his proposal may be more than the financially afflicted among us can bear.
Addendum. Commenter Tim provided this url about the USPS functioning as a lender, considering it an alternative to the present payday lending schema. Well worth reading.
Addendum #2. A study provided by Bill Fleming conducted by Pew Research is more sanguine about the aftereffects of payday loan regulation than the two I posted.