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Can Payday Lending Help?

posted by Bob Lawless

In past posts, I have expressed my support for restrictions on payday lending and other high-cost forms of consumer finance. In the long run, the costs of payday lending would seem to swamp any short-term benefits it brings to the consumers who use it. A recent study by Professors Dean Karlan at Yale and Jonathan Zinman at Dartmouth challenges that sort of thinking. The paper is not going to change anyone's mind on either side of the debate, but it is a paper that people who want to think thoughtfully about the subject should read. Those looking for sound bites and simple answers will need to look elsewhere. Karlan and Zinman wrote an op-ed about the study in the Nov. 1 edition of the Wall Street Journal, but the full-text of the paper can be found here.

In a nutshell, Karlan and Zinman find that short-term lending at a 200% APR in a South African community made people better off than persons who did not borrow. Karlan and Zinman were able to randomly assign some people to get a loan or not to get a loan, which did not always work given that they could not control the branch managers' ultimate decision to give a loan. Although they can compensate for this effect mathematically, Karlan and Zinman are careful to note both the limitations and strengths of their experimental design.

Karlan and Zinman find applicants who were given these high-interest loans were 11% more likely to retain wage employment, 6% less likely to experience severe hunger in their households, and 7% less likely to be below the poverty line. Persons who did not get a loan in their study were less likely to get credit elsewhere. Persons who did get the high-interest loan were more likely to get loans from similar sources in the future and less likely to report borrowing from banks, NGOs, and other more formal lending institutions.

A few thoughts occurred to me as I read the paper. As I wrote above, Karlan and Zinman are careful and themselves raise the issue of how generalizable their findings are. Most obviously, one wonders whether their findings have implications outside South Africa. Also, the lender in the study did not use "direct debit from paychecks or physically keeping bank books and ATM cards of clients" as did most of its competitors. Would the same results obtain with a lender using more aggressive collection strategies? My sense is that most people in trouble with U.S.-style payday loans are in trouble because of their collection strategies. Also, the results are self-reported survey results. Could those who received loans simply perceive or rationalize themselves as better off? Karlan and Zinman followed their subjects for a year, and they also acknowledge that their study cannot capture longer term effects.

Again, it's an interesting and thoughtful paper for those those have interests in the issue of regulating high-interest consumer lenders.  Hat tip to my student, Jessica Bartlett, for pointing the way to this article.

Comments

Those interested in the debate, and Karlan & Zinman paper, might also want to read Adair Morse's recent paper on payday lending which finds results consistent with the view that payday lending enhances community welfare. Here's a link:

http://www.clevelandfed.org/research/conferences/2007/october2/morse_payday061125.pdf

Grameen Bank has made a name (and won the Nobel Prize) by providing what are essentially payday loans.

From www.Grameen-info.org

"Grameen Bank (GB) has reversed conventional banking practice by removing the need for collateral and created a banking system based on mutual trust, accountability, participation and creativity. GB provides credit to the poorest of the poor in rural Bangladesh, without any collateral."

The program is wildly sucessful according to conventional wisdom, but how much interest is charged above the World Bank loans that subsidize the program?

Naturally these payday loans need to be used wisely but if done so can be a great help to those who don't have the option of a credit card advance or a loan from their credit union. There will always be the borrower who is just trying to score their next bag of weed or get money to drink on, but what about the person that is about to have a couple of small checks hit the bank and because of an error, their bank is going to charge them $34 for each check and then demand that they cover this fee by the next day? What about the senior on welfare that needs a prescription not covered by their Medicare? What about the working single mother that is about to have her electric shut off in the middle of December? Their are reasons that the service serves people for the good. There are also people that will abuse the system and get themselves in debt. People that don't think. But that doesn't mean that we need our government to think for everybody! In a free country, people are free to do good and bad. Free to do smart things and stupid things. That is the price of freedom. The government needs to keep their noses out of the business of American people!

Most of us owe money to people or organizations most of the time, bills are facts of life. But occasionally we may find ourselves getting swamped by debts, and can see the way of paying them all. But it’s never a good idea to ignore bills. Instead you need to get help to deal with them. Here are articles about mistakes on banning payday loans: http://personalmoneystore.com/moneyblog/2008/07/18/ban-payday-loans-big-mistake-5-6-08-tim-miller-the-christian-science-monitor/ is a good website obtaining secure online no fax payday loans.

As with everything else in life that involves money, if you don’t want to get cheated on your online payday advance, you had better know everything you need to know before applying. Here are articles about mistakes on banning payday loans, visit the site at: http://personalmoneystore.com/moneyblog/2008/07/18/ban-payday-loans-big-mistake-5-6-08-tim-miller-the-christian-science-monitor/

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