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May 30, 2008

Payday Loan Myth Debunked By Economists, Common Sense

If a complete stranger walked up to you on the street, asked you for a $100 loan, promised they'd pay it back in two weeks and gave you $1.50 for your trouble, would you do it? Of course not. But that’s exactly the kind of loony mentality under which the legislativeactivism against the payday loan industry is operating.

The government-knows-best bureaucrats behind proposals to ban  “cap” the industry love to throw out three-figure APR numbers to justify their crusade against payday lenders. But converting the flat fees on these short-term loans to annual interest rates doesn’t make a lot of sense.

Consider the penalty for bouncing a check, expressed as an annual percentage rate. Economists from Colby College and George Mason University made the conversion in a recent study on payday lending and found that, when converted to the annual percentage rate, a $28.75 fee on a $155 bounced check is equivalent to 478 percentinterest.

As industry defenders have pointed out, getting a payday loan is like taking a taxi home from the airport: It’s not the most economical option available, but it’s convenient. Would anyone say taxi drivers are “predatory” because it’s cheaper to rent a car?

Follow the arguments against payday lending to their logical conclusions and this paternalist cause du jour looks more like a witch hunt. As the senior VP of a California bank who dared to team up with a local payday lending business told Reason magazine back in 2002,

"It is as misinformed and as vicious a fight as you'll ever see. It's been ugly. It's not a new ugly, and it's based on misinformation and paternalism that is misplaced on the best of days.”

Well put, though we would recommend a few more nominees for Most Vicious/Uninformed Paternalism. This one’s definitely on the short list.