Republicans have been looking for a political win for a while. They finally got one this week by overturning the Consumer Financial Protection Bureau’s (CFPB) disastrous arbitration rule, which sought to bar financial companies from using private arbitration over class-action lawsuits—despite the fact that the CFPB’s own study confirmed that private arbitration is better for consumers.
Now they should turn their attention to the small dollar, short-term lending rule issued by the CFPB earlier this month. It is every bit as devastating as the arbitration rule. Congress should block the new rule via a Congressional Review Act resolution of disapproval. Below are just some of the reasons to fight the rule.
The Rule Will Hit the Poor the Hardest
The small dollar loan rule targets short-term payday and vehicle title loans, as well as certain longer-term, high-cost installment loans (such as those including balloon payments).
The rule requires lenders to ensure that a consumer can pay back the loan and still cover financial obligations and living expenses for 30 days by mandating that a lender assess a borrower’s “ability to repay.” But this standard makes no sense. If borrowers had an immediate “ability to repay,” they wouldn’t patronize payday lenders in the first place, and instead use their own savings or credit cards.
In effect, all the new rule does is ban lenders from offering loans to anyone with bad credit or no savings—precisely the people who would most need access to payday lending services in the first place.
The CFPB’s own analysis found that the rule will kill off around three-quarters of the industry. Twelve million Americans use payday loans annually, with 20,000 storefronts across the country. Destroying 75 percent of the industry will eliminate around $11 billion of consumer credit, leaving millions without access to emergency financing they occasionally need to get by from paycheck to paycheck.
Typical users of these small dollar loans are low- to middle-income individuals with few liquid assets, maxed-out credit cards, and exhausted savings accounts. For these people, short-term loans are a better option than defaulting on a loan, being hit with an overdraft fee, or even worse, having to acquire credit from illegal and predatory loan sharks.
In fact, surveys have found that 95 percent of borrowers say they value having the option to take out a payday loan, while the same proportion also believe they provide a safety net during unexpected financial trouble. Taking away this essential source of emergency funding is not “consumer protection.” It’s government paternalism.
A Failure in the States
Eighteen states and the District of Columbia have eliminated payday loans almost entirely. A wealth of research shows this has had terrible outcomes for consumers. Georgia and North Carolina, for example, were the first to ban payday lending. A New York Federal Reserve study found that households in those states had bounced more checks, filed more complaints about lenders and debt collectors, and filed for Chapter 7 bankruptcy protection at much higher rates than states that had not prohibited payday lending. Consumers have also been found to drive across state lines to other jurisdictions that allow small dollar lending.
Banning consumer loans at the state level has hurt consumers. Applying such a policy to the national level is a disaster.
Government Regulation is the Problem, and More Competition is the Answer
The irony of the CFPB’s rule is that it was government regulation that drove millions from traditional institutions and toward payday lending in the first place. In 2000, both payday loans and debit card overdraft fees charged the same fee of $15. The Durbin Amendment, established under the 2010 Dodd-Frank Act to cap the fees merchants pay on debit card transactions, raised the average price of an overdraft charge to around $30. Meanwhile, the average charge for a payday loan persists at around $15. Naturally, thousands of customers left the debit card market for the more competitive payday loan market.
Further, Obama-era regulations effectively eliminated payday loan-like products offered by banks known as “deposit advance.” Prior to the regulation, these products were cheaper, more transparent, and had lower levels of default than payday loans.
By continually regulating traditional financial products out of existence, the government has forced lower-income Americans into worse and worse options. The small dollar loan rule is but one example in a long chain of regulatory abuses. To give greater and better choices to consumers, Congress should end restrictions on the types of products that traditional financial institutions can offer. Increasing competition will drive down costs and foster better industry practices and innovation.
The central question of the debate is this: Do we improve people’s lives by giving them more choice or less? Paternalistic regulators believe that eliminating products they disapprove of makes people better off. But Americans will still need financial services after these loans are no more, and the new regulations don’t provide any better alternatives.
Senate Republicans deserve praise for overturning the arbitration rule, but their work shouldn’t stop there. They should use the Congressional Review Act to block the CFPB’s small dollar loan rule.