In the coming weeks, the Consumer Financial Protection Bureau (CFPB) is expected to finalize its controversial payday lending rule, which will regulate the short-term, small-dollar loans used by many stuck in a financial rut. While the substance of the final rule is still unknown, the proposed rule, released in June 2016, was intended to prevent consumers from “rolling over” their loans (i.e., remaining in debt for an extended period of time.)
The regulation would devastate the industry and the marginalized consumers it serves. The CFPB’s own impact analysis found that the rule would reduce industry revenue by approximately 75 percent. This is in essence a death warrant to at least three-quarters of the 20,000 payday loan shops that service some 12 million Americans annually.
Payday loans predominately support those who are trying to stay afloat between paychecks. These are people with few liquid assets, limited lines of traditional credit and exhausted “rainy day” funds. They are most commonly low-to-middle-income, young, female, and/or African-American. These customers turn to short term financing when they find themselves in a financial emergency, whether to pay an overdue bill, fix a broken car, or keep food on the table. While payday loans may not be ideal, it is hard to see how destroying such short-term credit for vulnerable customers is going to help make consumers financially stable.
The CFPB failed to study these effects adequately in considering the rule. Instead, the agency relied on a limited range of data provided by lenders that didn’t look at consumer welfare. But if the CFPB had adequately reviewed the academic literature and user surveys, as Competitive Enterprise Institute author Hilary Miller did, they would find that payday loans are actually beneficial to millions who cannot access traditional financial services. According to Miller, “only a small minority of payday borrowers report difficulty in repaying their loans, and the satisfaction rate is greater than 90 percent.” The fact that there are more payday loan shops than Starbucks is a good sign that they are serving a genuine need in a satisfactory way.
Further evidence comes from Prof. Lisa Servon of the University of Pennsylvania, who worked in a payday loan shop as part of research for her book, The Unbanking of America. Despite claims of exploitation, Servon found that payday lenders were instead serving real needs in low-income communities. She documents that consumers repeatedly chose payday lenders because they are more affordable, transparent, and have better customer service than traditional banks. This has been confirmed by multiple surveys showing that consumers are overwhelmingly satisfied with their experiences.
It is clear then that the CFPB has no legitimate basis for regulating most payday loans out of existence. The academic literature shows that payday loans have a neutral effect on net, and may even have a slight general-welfare benefit. The fact that payday loans were also one of the targets of Operation Choke Point suggests that the main reason behind the rule is political disfavor. But while payday loans are certainly not ideal, they are a better option for consumers than illegal and predatory loan sharks.
When the CFPB finally releases the rule, Congress should waste no time in using the Congressional Review Act to overturn this devastating regulation that disproportionately harms the most vulnerable in society. Simply not approving of a practice is no reason to destroy a reasonable option for those on the financial fringe.