Payday Loans Really Do Serve a Useful Purpose

Researchers at the New York Fed do a meta-analysis regarding payday lending, and wonder what all the handwringing is about:

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. [Emph. added]

This makes total sense. Payday loans’ detractors seem to want to willfully ignore an unpleasant fact of life among low-income consumers: that from time to time those consumers need to come up with cash quickly to make an urgent payment—on a car loan, say, to avoid repossession, or an unexpected heath care expense. The fees the consumer pays on the loan may seem high, but the alternative, missing the payment, is much, much worse. As the study’s authors point out, the payday lending business is highly competitive; the fees lenders charge are determined by the market, not by greedy lenders’ malevolence. Further, the alternatives to payday loans, most notably pawn shops and bank overdrafts, also have high dollar costs and are (in the case of bounced checks, anyway) technically illegal. How’s that an improvement?

So the data shows clearly that payday loans provide a real benefit to the people who use them. This shouldn’t come as a surprise to people who understand how the world works. But it will of course count for nothing in the banking-scold community. To the scolds, lenders are almost always predatory and unscrupulous–whether the loan at issue is a payday loan, a credit card’s line of credit, a subprime mortgage, or some other kind of consumer loan. Unfortunately, the “solutions” the scolds tend to propose—in the form of the CARD Act, say, or qualified-mortgage rules, tend to make credit less available and more expensive than it would otherwise be, and so hurt consumers rather than help them. Guess what? Regulatory restrictions imposed on payday lenders will almost certainly have a similar effect.

What do you think? Let me know!