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Cutting Off Consumers

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The Consumer Financial Protection Bureau just released a new rule against payday loans, but instead of helping consumers avoid some pitfalls of borrowing, it will create serious problems for them.

For starters, in the wake of the Equifax scandal that exposed millions of Americans' personal data to hackers, the regulation plans to put millions more at risk. The new rule mandates that lenders collect and share sensitive customer data with credit reporting agencies, including Equifax. This unnecessarily puts an enormous amount of customer data at risk, but the CFPB doesn't see it this way. In fact, the bureau's rule complained that most payday lenders do not "report any information … to the nationwide consumer reporting agencies, TransUnion, Equifax, and Experian."

To make matters worse, this sensitive information will also be shared with the CFPB – the same agency that the Government Accountability Office already criticized for not implementing appropriate privacy controls to secure people's personal data. It hardly instills confidence that, just last week, another financial regulator, the Federal Deposit Insurance Corporation, announced that their database was breached 54 times over the past two years.

Exposing consumers to potential hacks is surely enough to raise serious concerns about the new borrowing rules. Unfortunately, the problems for consumers don't end there.

The new rule effectively restricts the vast majority of short-term, small-dollar lending by forcing lenders to determine a customer's "ability to repay." The CFPB knows good and well that if those borrowers had an immediate "ability to repay," they would most likely dip into a savings account or make use of an even more convenient form of credit, like credit cards.

Payday loans are not the first financial option to which people turn. They are used by those who find themselves in an emergency, whether to pay an overdue bill or keep food on the table. Around 12 million Americans use payday loans each year as a means to stay afloat between paychecks. They are most commonly people with low- to middle-incomes, few liquid assets, already maxed-out credit cards and exhausted "rainy day" funds.

Government bureaucrats may not be able to understand why anyone would take out a payday loan, but for millions of Americans, short-term loans are a better option than defaulting on a loan, risking eviction, being hit with overdraft fees 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. Research by the Federal Reserve has confirmed that on net, payday loans do not harm their customers. Probably no one feels that getting a loan to cover urgent expenses is ideal, but with the number of payday loan shops outstripping the number of Starbucks, small-dollar lenders must be serving a genuine need in a satisfactory way.

It may come as a shock to out-of-touch regulators to know that some people even prefer payday lenders over traditional banks because they were more affordable, transparent and had better customer service, with some even tipping their tellers. (See the book "The Unbanking of Americaby professor Lisa Servon, who documents her experience working as a teller at a payday loan shop.)

Perversely, government regulations were a catalyst in driving many consumers to payday loans in the first place. The Durbin Amendment, which capped the "swipe fees" on debit cards, raised the average price of an overdraft charge to around $30, up from $18 in 2000. Payday loans charge an average fee of $18. Naturally, thousands of customers left the debit card market for the more competitive payday loan market. A recent study by economic research firm Moebs Services confirms that, "In 2000 payday lenders were a little over 5 percent of the overdraft market. By 2017 more than half of people who overdraw go to payday lenders."

But that much-needed industry may not survive Washington's regulatory assault. The CFPB's own impact analysis found that the rule would reduce industry revenue by approximately 75 percent, which will kill off at least three-quarters of the 20,000 payday loan shops. For consumers, that means the loss of approximately $11 billion worth of credit. And yet killing off the industry will not kill off demand for short-term loans. It will only drive customers to inferior substitutes, such as underground loan sharks. Let that thought sink in.

Congress cannot rightly let this CFPB rule stand. Our lawmakers have an opportunity now, over the next 60 legislative days, to vote the rule down using the Congressional Review Act. It's a chance for Congress to have the backs of marginalized consumers whom the CFPB has failed to protect.

Originally published to U.S. News and World Report.