Hot Pursuit of Customers: The Real Reason More People are Turning to Payday Loans

As one who studies the advertising and marketing plans of payday and title loan companies, I was interested in two Wall Street Journal articles published this week on the topic of payday loans, one claiming that Dodd-Frank has pushed many consumers into the hands of payday lenders, and another describing how hard payday lenders are working to steal customers from banks. Since many payday loan customers do not fully understand the terms of the loans, it isn’t that hard to steal customers from banks.  Payday loans, often at least ten times more expensive than credit cards, are easier to get. The lenders are far friendlier to customers and have more locations and business hours.  Plus, have you seen the advertising? It makes it sound easy and even fun to take out a 500% loan.  Payday loan industry experts now claim that their toughest business challenge going forward is not collecting on bad loans but finding enough new customers to keep the hundreds of thousands of stores afloat. Payday loan volume dropped $38.5 billion in 2009, or 24% since 2007, in part because of state regulation. Industry has successfully dodged regulation in some state, mostly by claiming that customers desperately need these loans for emergencies. The truth of this statement seems critical to the survival of this industry, but let’s look at the industry’s advertising and the real uses of these loans.

Empirical Caution: A Lesson from Auto Title Loans

A few weeks ago there was some nice discussion about Jim Hawkin's article on fringe banking.  Natalie questioned whether Jim's assumptions about payday lending correspond with empirical reality. Similarly, it's worth pointing out that the data Jim relies on regarding auto title lending aren't what he or even his source thought they represented.  

I make this observation not to ding Jim's paper, but to raise a really troubling problem for all academics: how to deal with data from other scholars' empirical work?  

Fringe Lending and Consumer Welfare

Like Katie Porter, I found Professor Jim Hawkins' paper on fringe lending valuable for challenging some of the premises underlying calls for stricter regulation of fringe lending products like payday loans.  In my view, there are empirically testable criteria for regulation of fringe credit, which I hope to elaborate in a forthcoming paper.  Unfortunately, Professor Hawkins ultimately does not offer either a normative consumer welfare framework for credit regulation, or a truly empirical examination of the welfare impacts of fringe lending.  Instead, he relies on product descriptions that reflect industry marketing more than the experienced reality of working class borrowers who use them, and uses a very limited implicit definition of consumer harm to restrict the possible justifications for market intervention.

Hawkins' Fringe Banking Premise is that Payday and Title Loans are Short-term: If Only it Were True

Although I disagree with the starting point of the paper Katie wrote about yesterday, Fringe Banking by Professor Jim Hawkins, and thus disagree with most of Professor Hawkins’ conclusions, I have great respect for him and am grateful that his paper is part of the national discourse on this topic. I deal with very poor people regularly and know some have no place else to go besides payday or title lenders when they need cash. Thus, I try to keep an open mind that on some level products like payday loans could serve some utility in the world, if they were truly used sparingly and for emergencies only. And if there were no rollovers and people could not use 10 or 12 of them at a time. In other words, if they worked the way Professor Hawkins says they do.

Jim’s paper gets a valuable idea out there, but the facts about how these products are really used, and how they are marketed, explain why these loan products create more problems than they solve. My own curbside data of payday use (read the long version or the short version) suggest that Professor Hawkins’ starting point, that these loans are designed to be short term and thus to keep people out of a cycle of debt, is out of synch with the reality of either borrowing habits or lender business plans. Still, his idea does start a conversation, and in this field the two sides do not talk. Period. The product designs he speaks of, if actually followed in practice, would make this type of lending much less abusive. I might even like these products.

Fringe Banking and Financial Distress: Argument and Critique

Today at The Conglomerate Blog, there is an online workshop of former Credit Slips guestblogger Jim Hawkins' paper, Regulating at the Fringe: Reexamining the Relationship between Fringe Banking and Financial Distress. Jim shared some of his thoughts on what he claims is the "dubious" relationship between fringe banking and financial distress in some of his Credit Slips posts.

I found Jim's paper to be provocative and I've posted a critique of his approach at The Comglomerate as one of their invited commenters. I think Jim's definition of financial distress as too many dollars of debt is unduly narrow and that it is only by using that definition can be claim to debunk the relationship between fringe banking and financial distress--primarily by arguing that because these are small dollar loans they can't really be much of a problem. I also think Jim tends to overstate the extent to which the Bureau of Consumer Financial Protection was justified by concern about financial distress. I think its primary focus is on correcting malfunctions in markets caused by misinformation or deception. Jim himself seems open to intervention in fringe banking on that basis, as he concludes his paper by exploring rationales other than financial distress might support regulation. Check out The Conglomerate blog to join the conversation about this topic and to see the thoughts of other invited commentators: David Zaring, Larry Garvin, and Todd Zwyicki.

Local Currencies

One moment that everyone seems to remember from The Office television show is the creation of Schrute Bucks, a motivational tool created by Dwight Schrute in his few moments of power as office manager. Any worker who accumulated 1,000 Schrute Bucks was entitled to five extra minutes of lunch break.

In the most recent issue of American Banker, Sara Lepro has a fascinating article on the growth of local currencies. Hardly worthless Schrute bucks, these currencies generally allow local residents to purchase them at a discount and then redeem them for full face value at local merchants. The idea is that local currencies promote local commerce, but Lepro points out their use has been growing in today's climate of mistrust against large financial institutions. The article will interest many Credit Slips visitors.