Recent research by the Insight Center for Community Economic Development studied the impact of payday lending in the U.S. and found the practice cost the economy nearly $1 billion in 2011, equivalent to the net loss of nearly 14,000 jobs nationwide. California, Texas, and Illinois were among the leaders in states impacted by payday lending, with California alone stomaching a loss of $135 million, or 1,975 jobs lost statewide.
Payday loans, by which consumers borrow small sums for short periods of time, typically two weeks or less, are becoming increasingly popular. Fees and interest add up to annualized interest rates in excess of 300%. According to a Pew Research study on payday lending, only 14% of those borrowers can afford to pay back the loan, resulting in a series of extensions and new loans that ultimately drive a consumer to seek out some alternative cash infusion, like a tax refund, or to declare bankruptcy.
The Insight study compared the economic impact of the money spent on payday loan interest payments to the impact that same money would have had in the local economy had it not be paid out as interest payments. Insight used IMPLAN to do the economic analysis, a software system used by the federal government, universities, and private organizations to estimate economic impact.
Insight found the economic impact of some $3.3 billion in interest payments was an additional $5.56 billion added to the economy in the form of purchases by payday lending institutions, including employee spending, owner salaries, direct business purchases, etc. That same $3.3 billion would have generated $6.34 billion in economic activity had households simply spent that money in their communities instead of using the money for interest payments. Therefore, the net loss to the economy from payday loan interest payments was $774 million. Private households are more likely to spend money directly in the community, and that likelihood increases dramatically in the lower-income communities typically targeted by payday lending establishments.
Further, the increased number of bankruptcies associated with payday lending cost the economy another $169 million, for a total impact of $943 million in 2011 alone.
Insight translated these economic losses into jobs lost using an IMPLAN model combined with more recent economic data regarding the cost to a household of a worker being away from home more hours per week to pay additional household expenses (e.g. payday loan interest payments). The overall net impact of payday lending interest payments on employment was 14,094 jobs lost. The heaviest hit sectors included offices of physicians, dentists, and other health practitioners, private hospitals, insurance carriers, and nursing and residential care facilities.
Tim Lohrentz, primary investigator and author of the Insight study, hopes the research will inform lawmakers considering limits or outright bans to payday lending. In fact, he writes, the amount of economic loss to any given state is directly related to the average interest rate charged by payday lenders. This has led some legislators, like Senator Dick Durbin (D-IL) to propose legislation capping the interest rate at 36% for all consumer loan transactions, a cap already in place for military families and for consumers in states with usury laws. States with stringent limits on payday lending, including caps on interest, see usage of the product decrease from 6.6% to 2.9%, according to the Pew study.
Alarmingly, the big banks are getting into the game as well, offering “direct deposit advance” loans, featuring annualized interest rates in excess of 400%. The Federal Deposit Insurance Corporation (FDIC) and the Office of the Comptroller of the Currency (OCC) proposed guidance on April 25th directing banks to stop making predatory loans that trap borrowers in a cycle of debt with 300% interest. The guidance requires banks to assess a borrower’s ability to repay and make loans that borrowers can afford to repay. The FDIC/OCC bank guidance, if adopted and fully enforced, would address longstanding concerns expressed by consumer advocates.
Last month, the Consumer Financial Protection Bureau issued a report on payday loans that highlights ongoing consumer challenges with high-cost, short-term credit with potentially abusive features. The report confirmed that borrowers who are predominately lower-income, are charged triple-digit interest rates for a short-term loan, and that repeat borrowing is frequent. The CFPB has the authority to examine payday lenders for compliance with existing consumer protection standards, such as those that govern electronic access to consumer’s bank account. The Bureau also has the authority to issue new rules that could curtail some industry abuses, such as repeat borrowing. The findings of its report argue for strong, prompt action.
All of these high interest, short term loans eventually draw impoverished families into a cycle of borrowing and debt repayment that diminishes the amount of money available for household expenses each month. Monies that would have gone into the local economy are instead rerouted to payday lending institutions frequently located out of state, and increasingly, out of the country. Therefore, regulatory institutions like the Consumer Financial Protection Bureau, along with state legislatures and Congress, should place strict limits on payday loan products, including caps on interest rates. “After all,” Senator Durbin said last month, “if you can’t make a living as a banker with 36 percent annual interest rates, then you ought to take up some other profession.”
About the Author
Michael Wood has been a member of NACA since 2011, when he left Fortune 100 corporate management to attend law school in Chicago, IL. Mike practices as a senior law student under Ill. S. Ct. Rule 711, and is currently working with other consumer advocates to address the debt buyer problem in Cook County, IL, through a new project called Debtors Legal Aid, which provides direct legal services and education to consumers experiencing predatory debt collection. Mike can be found on twitter @mikewoodondebt, or by email: mike[at]michaeljacobwood.com.