The Problem With the Government’s New Small-Dollar Loan Regulation

Norbert Michel / June 02, 2016

The Consumer Financial Protection Bureau has issued its long-awaited rule proposal to regulate small-dollar lenders such as those who provide payday loans. Formally, the CFPB’s proposal applies to payday, vehicle title, and certain high-cost installment loans.

While it’s impossible to analyze all the details in this piece—because the proposed rule is more than 1,300 pages—it is clear that the rules incorporate some of the key elements from a draft the CFPB released in 2015.

I’ve written extensively about why this entire effort is misguided, and it starts with a badly flawed premise: the industry harms consumers.

The main reason the premise is flawed is that it is simply impossible for any third party to objectively state that, in general, short-term lenders are charging consumers too much for their services and trapping them with unmanageable debt.

Value is subjective, even when it comes to topics like fees and interest on small loans.

As difficult as it may be for some people to admit, payday lenders provide a valuable service for which countless consumers have demonstrated they are both willing and able to pay. And it really doesn’t matter that some people are offended by the prices.

Many of the companies that provide these loans, particularly installment loans, have been around for more than a century precisely because they help people. Consumers use all types of small-dollar loans to help with all kinds of expenses, some of which arise unexpectedly.

These various forms of credit give people access to products ranging from appliances and furniture to rent and emergency vehicle repairs. This means Americans could be out of luck next time they need to go buy a new couch, washing machine, or car.

The CFPB’s regulatory solution to this supposed problem centers on an absurd concept: ability to repay. Basically, the new rules force lenders to certify that consumers have the ability to repay their loan, turning the idea of voluntary exchange on its head.

Here, too, the new rules are based on the flawed idea that firms typically seek out consumers who can’t possibly pay what they owe. It doesn’t take a graduate degree to figure out that’s not a viable long-term business strategy.

None of this matters to the CFPB. Shockingly, neither does the CFPB’s own evidence.

According to the CFPB, from July 2011 to August 2015, consumers lodged approximately 10,000 complaints against payday lenders, some of which were likely made against scam artists posing as legitimate businesses.

Even ignoring that these are unverified complaints, the figure pales in comparison to the more than 12 million people per year using payday loan services. In other words, four years of raw complaint totals represent less than one-tenth of one percent of the number of annual payday loan customers.

How can this complaint rate possibly justify rules that might—according to the CFPB’s own estimates—reduce 85 percent of the industry’s revenue?

Even if these complaints did support that a systemic problem exists in the payday lending industry (and they do not), there would be no justification for expanding these rules to other types of small-dollar loans.

But unless Congress acts, that’s exactly what the CFPB will do. And consumers will suffer as a result.

A great option would be for Congress to pass Sen. Ted Cruz, R-Texas, and Rep. John Ratcliffe’s, R-Texas, bill that would eliminate the CFPB. Consumer protection for financial consumers was already vested in several government agencies, so creating the CFPB was unnecessary in the first place.

The bill is just seven pages, so it’s much easier to digest.