D.C. Councilman and former mayor Marion Barry, as well as some of his colleagues on the City Council, have a novel idea on how to help D.C. residents struggling with the credit crunch: limit their ability access emergency cash by capping annual percentage rates that payday lenders can charge at 24 percent.
After initally voting unanimously for the cap, the D.C. Council is holding a new vote on the issue this week. Statist groups like the Center for Responsible lending are pushing hard to keep the cap. But hopefully, it will become apparent to the majority of the Council that the laws of economics cannot be legislated away, and when governments attempt to do so, the final bill enacted is always attached to an additional piece of troubling legislations: the Law of Unintnded Consequences
Basic microeconomics, of which there is a greater consensus on than say the macro issues of monetary policy, is that price controls — including interest rate ceilings — cause shortages. If a lender cannot charge an interest rate high enough that he or she believes can compensate for the risk, he or she will cease lending. But it’s ultimately the borrowers who lose out from not being able to seek out this alternative, and thus in many cases not getting the credit they feel they need.
In this case, the most marginal borrower would likely be hurt. Payday loans are used for everything from getting a car fixed it order to be able to get to work to paying for air fare to go see a sick relative.
They also could be used for less obvious thing that are still essential in moving up the econmic ladder. For instance, for borrowers who usually make timely payments yet who are worried about jeopardizing their credit rating by missing a payment on a credit card or loan, a small payday loan could give them the cash to make the payment on time (the payday loan would not necessarily itself lower the credit score or even be reported to a credit ranking agency). Maintaining a solid credit rating can make all the difference in everything from getting a home loan on good terms and the entrepreneurial activity of starting a business.
The D.C. Financial Services Association, a payday lender trade group, is smartly showing the stories of District payday borrowers who received needed cash for emergencies. An evenhanded story by Washington Post reporter Nikita Stewart points out these examples, as well as some of the statistics controversies in arguments against payday lending. Stewart quotes a lender saying that opponents often point to “worse-case scenarios,” and that in some cases total bank fees and interest can be comparable to a payday loan for marginal borrowers. For instance, bank overdraft fees can act as a form of loan, but they are counted as a “penalty” rather than interest.
CEI’s Iain Murray also penned a good piece last year for The American Spectator comparing payday loans to the overdraft loans he got in Britain when he was a student. As he wrote, “If CRL were truly committed to the idea of self-help, it would encourage borrowers to recognize their personal responsibility. Instead, it is cutting off sources of credit that have helped many out of poverty and into the middle classes.”