New Mexico Should Reject Interest Rate Limit Base on Federal Mismeasurement

There is an old saying that “a lie can travel halfway around the world while the truth is still putting on its shoes.” It has been attributed to Mark Twain, but researchers have found it to be more likely a descendant of something written centuries ago by the English satirist Jonathan Swift. But whatever its origin, it rings particularly true when the lie—or distortion—is burnished by federal policy. That is the case with a mandate in the federal Truth in Lending Act that requires that interest on nearly all consumer loans, regardless of duration, be reported as the annual percentage rate.

As Matthew Adams and I wrote in a Competitive Enterprise Institute paper, this so-called annual percentage rate leads many cash-strapped consumers to misunderstand available options. Worse, by distorting the policy debate, the APR leads politicians at both the federal and state level to propose banning these options.

The latest destination for this federally sanctioned mismeasurement is New Mexico, where the legislature is debating HB 132, which would cap interest on many small, short-term loans at 36 percent APR. Concerned New Mexicans warn that the bill would drastically limit credit for those who need it the most. Air Force veteran, Albuquerque Police Department retiree and small business ownerLarry Sonntag writes in the New Mexico Sun that “the passage of that bill means that a financial lifeline for countless New Mexicans would be severely compromised, if not totally eradicated.”

Proponents of the bill point to supposed triple-digit interest rates for small loans. But the interest rates are triple-digits only if calculated at the annual rate, and are much lower during the actual duration of a short-term loan.

As Adams and I write in the paper, a two-week $200 consumer loan with a $40 interest charge has a 20 percent interest rate if paid back within its duration. But if this loan is extended a full year, which rarely if ever happens, the annual interest rate would be 520 percent. Yet federal law mandates that 520 percent be disclosed as the official rate of interest for this loan.

For the sake of those who truly need credit in New Mexico, one can only hope the truth puts on her shoes quickly.