Wednesday, February 13, 2008

Payday Lending: Good Or Evil

There's been a lot of discussion on whether payday loans are good or evil. Most people (regardless of whether they actually use them or not) think they prey on weaker sections of society. The businesses, of course, claim they offer a service to under served communities.

According to a great research article written by the renowned economic institution, The Mises Institute, payday loans are definitely evil.

The Center for Responsible Lending concludes payday lending is a predatory business in that it lures borrowers into a "debt trap." The problem, the Center says, is this: borrowers take out short-term loans with high interest rates and transaction costs. The costs are so burdensome that borrowers soon find they need additional loans. This cycle traps borrowers in a situation of revolving high-priced, short-term credit. The Center’s study estimates conservatively that borrowers spend $3.4 billion dollars annually in lending fees.

However, they also suggest a solution:
Short of banning payday lending altogether, the Center advocates that payday lending companies be permitted to advance no more than 4 loans per customer per year and that these loans have 90-day terms (instead of 14-30 day terms). In this way, spendthrift borrowers are prevented from abusing the service and falling into the trap of revolving credit.

There you have it. Payday loans are evil and you should try and avoid them. But even though they are bad, there's a way to make them less bad. The article also explains why pay day loan businesses need to charge so much and once you realize this, you understand why they effectively make only a 30% return on their money.

You can read the entire article here.

What's your opinion on payday loans?


Writer's Coin said...

I think they are awful ways to trap people into horrible instruments. Those companies would never allow themselves to be that heavily regulated. I say evil.

efolgate said...

they are truly predatory lenders. The only places you see payday loan store fronts are in the poorest areas of the city. I do not place all the blame on them, because people are still responsible for the actions and decisions that they make, but when you average the interest they take from as if you were carrying the loan for the length of a year, the APR would be 200 to 300%. It's sick.