Results for “payday loans”
9 found

Banning Payday Loans Harms Borrowers

A new NBER paper by Allcott, Kim, Taubinsky and Zinman takes a close look at the behavioral economics of payday loans and finds that most common regulations make borrowers worse off.

Critics argue that payday loans are predatory, trapping consumers in cycles of repeated high interest borrowing. A typical payday loan incurs $15 interest per $100 borrowed over two weeks, implying an annual percentage rate (APR) of 391 percent, and more than 80 percent of payday loans nationwide in 2011-2012 were reborrowed within 30 days (CFPB 2016). As a result of these concerns, 18 states now effectively ban payday lending (CFA 2019), and in 2017, the Consumer Financial Protection Bureau (CFPB) finalized a set of nationwide regulations. The CFPB’s then director argued that \the CFPB’s new rule puts a stop to the payday debt traps that have plagued communities across the country. Too often, borrowers who need quick cash end up trapped in loans they can’t afford” (CFPB 2017).

Proponents argue that payday loans serve a critical need: people are willing to pay high interest rates because they very much need credit. For example, Knight (2017) wrote that the CFPB regulation \will significantly reduce consumers’ access to credit at the exact moments they need it most.” Under new leadership, the CFPB rescinded part of its 2017 regulation on the grounds that it would reduce credit access.

At the core of this debate is the question of whether borrowers act in their own best interest. If borrowers successfully maximize their utility, then restricting choice reduces welfare. However, if borrowers have self-control problems (“present focus,” in the language of Ericson and Laibson 2019), then they may borrow more to finance present consumption than they would like to in the long run. Furthermore, if borrowers are “naive” about their present focus, overoptimistic about their future financial situation, or for some other reason do not anticipate their high likelihood of repeat borrowing, they could underestimate the costs of repaying a loan. In this case, restricting credit access might make borrowers better off.

First, the authors find that borrowers clearly understand their own behavior. When asked, borrowers predict that they have a 70% probability of borrowing again in the next eight weeks which is almost exactly (74%) the actual borrowing probability. Experienced borrowers are better at predicting their own probabilities of borrowing again so learning also takes place.

Just because they can predict their own behavior doesn’t meant that borrowers like their own behavior (a drunk might predict they will get drunk again without “desiring” to get drunk again) and indeed the authors show with a clever experiment that many borrowers are willing to pay to modestly constrain their own choices. Overall, however, borrowers gain from payday lending so when the authors model payday loan regulations with borrower preferences (their “best”, long-run preferences) regulation reduces welfare:

Payday loan bans and tighter loan size caps both reduce welfare in our model. By contrast, 18 states have banned payday lending, and some states have particularly stringent loan size caps, such as the $300 limit in California.

The best regulation in the model is a rollover restriction which prevents borrowers from borrowing again and again and again. Rather than a blanket regulation, however, I’d prefer a self-exclusion option which would allow people to ban themselves from borrowing in much the same way that people with gambling problems can ban themselves from gambling establishments.

The bottom line is that payday lenders are serving a need and benefiting their customers. Preventing people from accessing payday lenders typically makes them worse off but that doesn’t mean that the customers are entirely sensible or without problems both internal and external. The most revealing statistic in the paper is one the authors mention only in passing:

although our participants are liquidity constrained and we sent two reminder emails, our gift card vendor reports that only 44 percent of the $100 gift cards were claimed

It’s no surprise that people who leave free money on the table have planning problems and need to borrow, it’s just that preventing them from borrowing doesn’t make them better off.

The effect of banning payday loans

n November 2008, Ohio enacted the Short-Term Loan Law which imposed a 28% APR on payday loans, effectively banning the industry. Using licensing records from 2006 to 2010, I examine if there are changes in the supply side of the pawnbroker, precious-metals, small-loan, and second-mortgage lending industries during periods when the ban is effective. Seemingly unrelated regression results show the ban increases the average county-level operating small-loan, second-mortgage, and pawnbroker licensees per million by 156, 43, and 97%, respectively.

That is from Stefanie R. Ramirez, via the excellent Kevin Lewis.

Payday loans

This afternoon, let’s just do "Control-C" from Craig Newmark:

Paige Skiba (Vanderbilt Law School) and Jeremy Tobacman (Oxford), "The Profitability of Payday Loans":

Payday loans provide households
with expensive, short-term liquidity. This paper studies the
profitability of payday lending using standard financial data from CRSP
and SEC filings and loan-level data from a payday lender. Despite
charging e¤ective annualized rates of many percent, we find lenders’
firm-level returns differ little from typical financial returns. The
data are consistent with an interpretation that payday lenders face
high per-loan and per-store fixed costs in a competitive market.

I’d bet a similar analysis applies to the rent-to-own industry.

Payday Lending

Here is the opening to a delightfully combative post on payday lending at Liberty Street Economics, the blog of New York Fed:

Except for the ten to twelve million people who use them every year, just about everybody hates payday loans. Their detractors include many law professors, consumer advocates, members of the clergy, journalists, policymakers, and even the President! But is all the enmity justified? We show that many elements of the payday lending critique—their “unconscionable” and “spiraling” fees and their “targeting” of minorities—don’t hold up under scrutiny and the weight of evidence. After dispensing with those wrong reasons to object to payday lenders, we focus on a possible right reason: the tendency for some borrowers to roll over loans repeatedly. The key question here is whether the borrowers prone to rollovers are systematically overoptimistic about how quickly they will repay their loan. After reviewing the limited and mixed evidence on that point, we conclude that more research on the causes and consequences of rollovers should come before any wholesale reforms of payday credit.

Read the whole thing.

Monday assorted links

1. Jodi Ettenberg interview.  Recommended.

2. “No evidence for cumulating socioeconomic advantage. Ability explains increasing SES effects with age on children’s domain test scores.

3. Unite America, for ranked choice voting.  And the sugar lobby is alive and well.

4. “We find that access to a plasma donation center reduces demand (inquiries) for payday and installment loans by 6.5% and 8.1%, respectively, with larger effects (13.1% and 15.7%, respectively) on younger borrowers. Moreover, foot traffic increases by 7-10% at essential and non-essential goods establishments when a new plasma center opens nearby. Our findings suggest that plasma donation helps households smooth consumption without appealing to high-cost debt.”  Link here.

5. “Thus, six-year-olds appear to more flexibly use multiple sources of information than both younger children and adults…

6. “An additional study (N = 2,172) shows that both Democrats and Republicans perceived the social network Facebook to be biased against their side.

7. “License plate readers are rapidly reshaping private security in American neighborhoods, bringing police surveillance tools to the masses with an automated watchdog that records 24 hours a day.

Credit Rationing

Utah payday lenders began refusing Monday to make loans to members of
the military rather than give them much lower rates mandated by a new
federal law.

That new law, which took effect Monday, caps the annual interest on
payday, car title or tax refund anticipation loans at 36 percent
annually for members of the military and their families….

"At 36 percent annual percent rate, the total fees we could charge are
$1.38 per $100 for a two-week loan. That is less than 10 cents a day,"
Walker said.

"Payroll advance lenders could not even meet employee payroll at that
rate, let alone cover other fixed expenses and make a profit," he said.

I’m surprised that it is constitutional for the government to require firms to lower prices for certain groups.  I’m not surprised that the law has unintended consequences – but perhaps the consequences were not unintended.

"The protection the regulation offers is not a wall preventing a
service member from getting assistance, rather it is more like a
flashing sign pointing out danger and directing the borrower to a safer
way of satisfying immediate financial need," said Leslye A. Arsht,
deputy undersecretary of defense for military community and family

He said financial help for members of the military is available through
a member’s chain of command, legal assistance office or military aid

So the military doesn’t pay you enough to pay your bills and then they reduce your borrowing options while suggesting that you can borrow more from them.  Hmmm… reminds me of a company town.

More on the story here and a hat tip to Overlawyered and Bob M.