We have chosen to include 2016 testimony before the US House Committee on Financial Services in our series on influential or useful studies. This is because the source (the Mercatus Center at George Mason University) and the evident scholarship behind the conclusions that Professor Thomas Miller outlines, make it useful for the purposes of understanding the nature of non-bank loan regulation.
Professor Miller points out the dangers and challenges inherent in regulating small dollar, non-bank loans saying that:
“People who make regulatory decisions on behalf of these borrowers are well intentioned. In many cases, however, they do not fully understand how small-dollar credit products help subprime borrowers who are in difficult financial circumstances.”
He points out that the focus of his work is on how policymakers can best “restructure regulation to improve borrower welfare”. The testimony looks at the diverse nature of the non-bank lending environment (from which we infer that one-size-fits-all policy such as APR caps are not suitable for effective regulation), and strongly makes the point that eliminating credit supply has no effect on credit demand – a point NILA makes at every opportunity.
He concludes with a detailed section on the performance of state-regulatory restrictions on small-dollar loans, saying that APR caps are an outdated form of regulation and lead to legal loan deserts in the small-dollar loan landscape, where there is demand, but no supply. He uses a simple example of why APR caps might not be the best way to regulate small loans, saying:
“If you go to an ATM that is not connected to your bank on Friday and withdraw $50 for a $3 charge, you are effectively borrowing $50 (of your own money) until Monday, when your transaction and fee hits your account. Your cost is $1 per day, but your APR is a whopper: 730 percent. Now, would you be happy if a well-meaning regulator prohibited you from paying such an exorbitant APR and you were cashless for the weekend?”
He also notes that policymakers 100 years ago recognized that they might need to update the interest rate cap and that the Uniform Small Loan Law of 1916 states that a rate established by legislators “should be reconsidered after a reasonable period of experience with it.” We agree with Professor Miller’s assertion that the succeeding 100 years exceeds “a reasonable period,” and wholeheartedly when he says policymakers of today would be wise to follow the lead of reformers in the early 1900s and reconsider the outdated 36 percent interest rate cap.
SOURCE: Mercatus Center