Copyright 2005, Bureau of National Affairs, Inc.
The Consumer Credit Research Foundation, which sponsors studies for the payday lending industry, Dec. 14 released a 27-page report, "Payday Lending: A Practical Overview of a Growing Component of America's Economy."
The report, prepared by five academic economists, says that payday lending fills a market need not met by conventional financial institutions, and that it can be a less expensive alternative to other types of short-term or "bridge" borrowing.
At a press conference in Washington , D.C. , CCRF spokesman Robert Hoopes explained that the foundation is a tax code Section 501(c)(3) nonprofit dedicated to gathering data on the burgeoning payday loan industry.
"The payday lending industry has experienced tremendous growth in recent years," the foundation said in a statement. "During the 1990s, the number of retail outlets grew from virtually none to more than 10,000 by the end of the decade." That number has since doubled, said William O. Brown Jr., an associate professor of economics at Claremont McKenna College , and a co-author of the report.
From time immemorial, there has been a market for short-term loans, Brown said. The "consumer financial industry" has evolved from pawnbrokers to check-cashing firms to publicly traded "specialty firms," some of which do business in partnership with banks, he added. He noted that pawnshops, too, are having a resurgence after a long period of decline. He said consumers turn to payday lenders because of the end of personal banking relationships and because of higher bank fees and minimum account balances.
Part of the reason payday lending took off, he added, is the deregulation and consolidation of the financial services industry in the 1980s, and the virtual end of installment credit. Also, some of the states that used to have restrictions on payday lending have removed them, Brown said. People with impaired credit may turn to payday lenders for short-term loans, as they turn to subprime credit cards and mortgages, he added.
Why Choose Payday Loans? "We believe consumers are rational," said study co-author Tom Lehman, associate professor of economics at Indiana Wesleyan University . People have "good reasons" for choosing payday lenders, finding them at times an "appealing option," he said. The typical payday borrower has a bank account and a job, Lehman, citing the report. Over 50 percent make between $25,000 and $50,000 a year, and over half are married. Ninety-four percent have at least a high school education, he added.
More research is needed on how borrowers are distributed by race and gender, he said. Most consumers know the cost of a payday loan before they borrow, Lehman asserted. Most borrowers do not think in terms of annualized percentage rate, because payday loans are generally for a two- to four-week term, but consumers do understand flat fees, he said. A consumer may prefer to pay a flat fee of $15-$20 per $100 borrowed, rather than a $20-$60 phone reconnection fee due to missed payments, or overdraft charges on bounced checks, Lehman said.
Impact of Regulation James W. Meehan Jr., economics professor at Colby College, Waterville, Maine, explained the different ways consumers can handle payday loans: repay the loan when due, repay and take out a new loan (a 'same day' transaction), pay the interest and extend the loan (rollover), repay the first lender with money borrowed from a second lender, be late with a payment, or default on the loan. Studies by several states of payday lender data show that, frequently, customers take out 10-12 payday loans per year, he said.
The federal Truth in Lending Act and other consumer protection laws apply to payday loans, Meehan said. State regulation of payday lending is a "patchwork quilt," he said. Some states do not have usury laws, and those that do define usury in different ways. Some banks make loans through third-party payday lenders, he said. The federal bank regulatory agencies are dubious about banks holding these risky loans in their portfolios, he added.
The industry has not "matured" and is growing, Meehan said. There have been few academic studies on payday lending, and more are needed, he added. "The best consumer protection comes from the marketplace," he asserted. Restricting entry to the industry is bad for the consumer because the more payday lenders there are, the more competitive they will be, he said. Full advance disclosure is vital, but consumers should be allowed to make their own choices, he said.
Not a Scam Michael T. Maloney, professor of economics at Clemson University , said the payday loan industry is too big and is growing too fast to be a scam. Payday borrowers are "average" people with credit problems, he said. Almost one-third of payday borrowers have borrowed from more than one payday lender, he added. He said that people who "fall into" debt-related problems may find that payday loans "mitigate, not exacerbate" their situation. He added that, if payday loans were not available, these borrowers might turn to "more personally disastrous things" to relieve their financial distress.
Asked about the role of the federal bank regulatory agencies--the Office of the Comptroller of the Currency, the Office of Thrift Supervision, the Federal Reserve Board, and the Federal Deposit Insurance Corporation--Maloney said the regulators "lean against" partnerships between banks and payday lenders because of risk.
Under FDIC guidelines, banks must monitor payday lenders they do business with, Meehan added. Asked why other financial institutions have not stepped in to satisfy this niche market, he said that some community development banks and credit unions have tried but that, on the whole, "paydays do it cheaper." Lending: A Practical Overview of a Growing Component of America 's Economy," is available on the Consumer Credit Research Foundation Web site, http://www.consumercreditresearchfoundation.com.