Removal of payday loan option hurts borrowers

November 18, 2008

A new study confirms that consumers in states where the payday loan option is removed actually are worse off than when that credit option was available to them. The report, issued by Dartmouth College economist Jonathan Zinman, looked at the state of Oregon which imposed a 36% APR cap on these short-term small dollar loans in 2007. (The full report, “Restricting Consumer Credit Access,” can be found on the “Industry Information” section of this web site.)  Zinman found that after payday lenders left the state, Oregonians had to turn to credit alternatives that were all more costly than the short-term loans. Specifically, he found that:

“…the cap dramatically reduced access to payday loans in Oregon, and that former payday borrowers responded by shifting into incomplete and plausibly inferior substitutes. Most substitution seems to occur through checking account overdrafts of various types and/or late bills. These alternative sources of liquidity can be quite costly in both direct terms (overdraft and late fees) and indirect terms (eventual loss of checking account, criminal charges, utility shutoff).”

Zinman also compared his findings regarding the financial conditions of households in Oregon to those in Washington State, where payday lending remains legal. Not surprisingly, he found that “the Oregon households were far more likely to experience a change for the worse in the key financial outcomes.”

This latest study reaffirms the adverse long-term implications of often short-sighted public policy decisions. Those who seek to cap payday loan interest rates aren’t really “fixing” a problem; they are merely limiting consumers’ choices as to how best to address their financial situation and oftentimes forcing them to choose even more expensive alternatives.
 
Public policy makers need to look beyond the rhetoric of so-called “consumer advocates” and assess the real-world needs surrounding access to credit. It is imperative to develop common sense policies that provide adequate consumer protections while still making available the short-term credit that consumers continue to need. Failure to do so will only increase consumer misery without any corresponding benefits, except perhaps to bank profits.