The financial writers at Motley Fool have a reputation for cutting through emotional arguments and getting to the nuts and bolts of an issue or industry. Jim Baumer’s article on payday lending, The Unspoken Truth About Payday Lenders, does just that:
Payday lenders are often painted as the 21st century’s version of the 1950s loan shark—lenders operating outside the reach of the law, inhabiting smoky backrooms, preying on the poor, and lining their pockets from exorbitant interest rates, or even worse.
The reality is payday lenders are regulated, with policymakers feeling compelled to continue adding new layers of regulation and bureaucracy to deal with an issue that is mainly economic.
Baumer argues that people use short-term loans for several reasons:
- When their access to mainstream credit options is restricted
- When they have troubled credit histories
- Short-term loans are easy and convenient
The simple fact is, short-term loans have demonstrated that they truly fill a market niche. The most interesting aspect of Baumer’s argument, though, is how he proposes to change interest rates in the industry:
A better solution might be an economic model offering workers wages they could actually live on. In fact, a strong argument can be made that middle-class wages drive our consumer model. Rather than placing more regulations on short-term lenders, policymakers should recognize that raising the standard of living for all Americans would eliminate payday lenders quicker than any regulations ever could.
Short-term solutions that seek to regulate the industry create “new layers of regulation and bureaucracy,” and that drives up costs and makes the lending process more difficult. Ultimately, the market has demonstrated a need for short-term loans. We believe broader economic issues and market conditions – not increased regulation – should drive the product’s use.
Photo credit: Jayofboy
Millennials are turning to alternative financial services in large numbers according to a recent survey by Think Finance (source).
Think Finance surveyed 640 underbanked Millennials and found that reliance on convenient, on-the-spot financial products vs. institutionally-backed loans or credit cards is both widespread and independent of economic status. Half of both the highest and lowest earning groups had used prepaid debit cards in the last year. 34% of respondents earning less than $25K had used check cashing services in the last year, while 29% of those earning $50 – $74.9K had done likewise.
Why? Short-term loans are fast. They’re available after traditional banking hours, and Millennials tend to distrust the old guard like banks and credit card companies. “In light of mistrust of traditional financial instruments and a pragmatism about not digging themselves a deeper hole than they already find themselves in due to student loan debt and a weak job market, prepaid debit cards – can’t spend more than what you load them with – make a shrewd sort of fiscal sense,” Forbes writes.
Photo credit: Highwing
OCLA interviewed Melissa from Fredericktown, Ohio in March 2013. Here’s a transcript from the interview:
Do you feel that the charges for these services are upfront and transparent?
Yes. Everybody’s really friendly, and I’ve gotten to know them on a first-name basis. … (It’s) step-by-step, asking me for my paystub and seeing how much I’m able to borrow. They know the steps really well.
Has there been a time when these services have helped you through a crisis?
Yeah. There’s been times it’s saved me from overdraft charges on my bank account, and that’s good because those are a lot more expensive, especially if you have four or five of them, and then coming in here and just having the one charge.
Do you feel this industry tries to trap you in a cycle of debt?
I’d say, no, not whatsoever because they’re more helping people, and they’re not jamming it down your throat (like) ‘Borrow more! Borrow more!’ You should know how much you need and not feel pressured into borrowing more than you need.
What would happen to you or the community if these services were eliminated?
I think there’d be a lot more people in really bad situations where they’d probably end up homeless possibly or not able to make it to work because they don’t have gas or not able to feed their kids because they don’t have that $100 extra they need to buy some food for their kids. I think it’s a good service.
What would you say to those people trying eliminate these services?
I would say, “It’s not a good idea. We’re in hard times, the economy’s not real well, jobs aren’t real secure nowadays and a lot of people have to work several jobs to make ends meet. I say any extra help there is, you know? Unless they want to do something about the banks charging so much for overdraft fees or bounced checks, I think this is a better alternative to having the bank charge you. People make mistakes on their checking accounts.
Short-term consumer loans have long been viewed as a fringe service, but the recent financial crisis proved that the middle class uses them, too. A new Urban Institute study found that 41% of American households reported using “alternative financial services” in 2011. That’s up from 36% in 2009, Time reports. Prepaid debit cards make up a fair portion of that growth, but some 14% of households reported using “nonbank credit.”
Nonbank credit includes payday loans, pawn shops, rent-to-own contracts and tax refund anticipation loans. It’s a sign that there’s a demonstrated need for the product. And that need has grown fastest among households earning over $75,000 a year, Time reports. Households earning between $50,000 and $75,000 were the second-fastest growing demographic while those who make $15,000 or less a year actually scaled back their use of nonbank credit.
The growth in nonbank transactions coincides with a reduction in access to credit. “Across all of these metrics (including new account originations and total credit lines), credit appears to be less available today than it was in 2007,” the CFPB reported recently. Short-term consumer loans fill that gap.