Last month five legislators introduced the Veterans and Consumers Fair Credit Act, a bipartisan piece of legislation that proposes an ill-advised solution to a difficult problem. It seeks to put an interest rate cap on all loans nationally in the name of consumer protection. Unfortunately, it will likely have the opposite impact on the consumers it seeks to protect.
No one likes predatory loans where consumers can sink into a debt spiral that often ends up in financial ruin. While this bill seeks to focus on payday and car-title loans, two loan products that are universally disliked, it will also impact many installment lenders. These are the companies who sit between the low interest marketplace lenders and the payday loan industry, offering loans with APRs of 36% to 100%, many of whom provide critical financial support for struggling consumers.
The fact is that an interest rate caps is a very blunt instrument to use on a nuanced problem. There are some who believe that any interest rate above 20% or 25% is unacceptable and certainly 36% is out of the question to many. But what is the solution for people who simply don’t qualify for a loan at a lower percentage rate? According to the legislation proposed these people would just be out of luck. This will lead to more bankruptcies and more lives disrupted.
This is not just my opinion. This recent op-ed in The Hill by Consumers’ Research cited a study conducted in 2014 on the historical evidence of the impact of rate caps at the state level and they concluded that “state interest rate ceilings restricted credit availability…for higher-risk borrowers.” So, the legislation that is supposed to help higher risk borrowers in effect will price them out of the system and leave them with no good options.
Sometimes I think critics of high interest loans suffer from a kind of magical thinking. That if we simply legislate away a product the demand will go away. Clearly that is not going to happen, in fact demand will likely increase for a product that would now be banned. [Read more…]