Payday lenders are a scourge that preys on the vulnerable. They peddle short-term loans with annualized interest rates averaging 390%. And they devise ways to get people to roll over these loans multiple times, so customers end up paying much more than they borrowed.
Payday lenders also provide a service, offering loans of last resort to people who need fast money to pay their rent or fix their car.
So what to do?
Eighteen states and Washington, D.C., have concluded that the downsides far outweigh the upsides. Some have declared payday lending an illegal act of usury. Others have capped interest rates well below what payday lenders demand, effectively wrecking their business model.
On Thursday, the Consumer Financial Protection Bureau, the controversial agency created in the wake of the financial crisis, weighed in with a new set of rules designed to police the industry nationally. In a manner typical of the federal government, its approach is a good-faith but over-engineered effort to curb some of the worst abuses.
Rather than dismantling the industry as many states have done, the CFPB attempts to allow some loans while disallowing others. Its new rules would allow short-term lenders (both payday and car-title lenders) to lend at whatever rate they choose, but only to people who have an ability to repay the loan when it is due. To complicate matters further, these rules would kick in only after a lender places six loans with an individual during a 12-month period.
This raises the question: If it’s a bad thing to lend to people who can’t repay on time, why should payday lenders be allowed to do it six times?
Yet, for all their complexity, the new rules represent progress. Though a nationwide interest rate cap might be a cleaner solution, the CFPB cannot impose one without approval from Congress, which is highly unlikely. And the rules do address the industry’s most unsavory tactics.
In addition to restrictions on loans purposefully not meant to be repaid on time, the rules would curb abusive overdraft practices and limit the number of times a loan can be rolled over in quick succession.
For those who would like to see more, the states are the place to turn. They can, and in many cases have been, much more aggressive, with largely positive effects.
There are, to be sure, some negative consequences of eliminating, or severely limiting, payday lending. But the evidence suggests that people cope — in fact, they do better — without payday lenders.
In their absence, people turn to other sources. These include borrowing from friends or co-workers, asking for help from charitable institutions, negotiating with landlords and creditors for an extension on payments, and availing themselves of pawn shops.
None is a perfect solution. But they are preferable to being pulled into an exploitative debt trap.
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