Legalized Loan Sharking
The Rise of Payday Loans
By Daniel Muniz

For people who exercise responsible credit behavior and manage their bank accounts wisely, the payday loan and check cashing industry is a bit of a culture shock. But for millions of Americans, paying an obscenely high fee just to cash a paycheck as well as paying an outrageous interest rate for a minuscule short-term loan is more of a lifestyle.

And sadly, this industry continues to experience enormous growth because of those lifestyle choices.

There has always been a part of the population that has lived a bit on the wild side with their finances. Part of this segment is what has given pawnshops their longevity and their notoriety. For decades, pawnbrokers offered fast cash and no questions asked for a loan on something of value.

Incidentally, the payday loan industry was born along the same parallel. That is, catering to people who do not typically use traditional financial institutions, such as banks and credit unions. Instead of using collateral like a pawnshop, the payday loan banks offer tiny loans with an outlandish interest anywhere from 200 percent to 500 percent rates.

You don’t even need good credit. All it takes is having a job and some verifiable documents.

The runaway success of these companies is the result of a subculture that has always been suspicious of financial institutions. And unlike a loan shark, nobody named Bruno is going to break your kneecaps if you don’t pay up. You and your employer will just get harassed and your credit will be trashed. And if your credit was bad or non-existent to start off with, then there was never much to lose in the first place.

Although the exorbitant rates and terms are indeed reminiscent of loan sharking, pay day loans are legal in most states and easier to find on street corners than a hoodlum or mobster.

Many critics charge that the cause for the explosion of payday loans is the mammoth rise in low-paying manual labor jobs and that this form of banking represents the only financial institutions available to the working poor. Such an assertion, especially since it smacks of class warfare, is patently false.
 

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Just because you are poor doesn’t mean that you cannot open up a checking account. Before the rise of the great middle class, lots of people used to put money into something called a savings account. Although savings accounts are practically non-existent these days, they were widely used long before the advent of modern electronic banking and the proliferation of credit.

Regrettably, there are a lot of reasons why people abhor the traditional banking thus resorting to these unscrupulous organizations.

The biggest reason so far is merely ignorance of how our financial system really works. The complex American banking system is the envy of the world but a mystery to a lot of our own people. Our education system merely touches on the generalities of our financial system but a certain segment of the population is still in the dark about its true functionality. Unfortunately, this suspicion and fear keeps too many people away who could otherwise greatly benefit from our banks.

Another reason is that too many people have bounced their way out of the banking system by having their accounts closed. Just as there are credit bureaus to track your credit behavior, there are companies that monitor your bounced checks. Too many overdrawn items and you are then deemed as a risk much like the way it is done with credit. And if you have an unpaid outstanding bounced check, then like credit, you are considered too high of a risk to be allowed to open up a checking account somewhere else.

And just as there are people with bad credit, there are people who have bad checking habits. That behavior results in people avoiding our financial institutions altogether, which is a shame.

In addition, people on the fringes of good credit scores also resort to these legal loan sharks. Instead of building up a good solid score (or not knowing how the credit reporting system really works), these consumers are easy prey to the payday loan industry.

Finally, the traditional banks do not want to get involved. A huge financial institution or even the credit unions could truly reshape the entire industry by actually offering reasonable but higher rates while still making a huge profit with this high-risk crowd. But banks and credit unions will only deal with the prime and the reasonable sub-prime customers. And most importantly, they have devoted a long time in maintaining their image and reputation so they don’t want to be associated with anything that can be construed with exploiting poor people.

And what is worse is that the people who use payday loans still don’t want to consider using a credit union. Credit unions are an excellent alternative to traditional banks, especially since they are open to serving sub-prime customers.

Libertarians and certain fiscal conservatives object to the government interfering with these legal loan sharks, insisting that the customers are full grown adults and that they know what they are getting themselves into even if it means getting screwed by the scandalous interest rates. And I have heard people explain that “I am not a moralist” in regards to economic matters.

But as a conservative, I do have morals and I do have a conscience. I am also a big proponent of free enterprise and I support the laws of supply and demand. But I don’t advocate exploiting poor people, especially since they many of them are unaware of how our financial system really works and the numerous options still available.

Unless we are in economic environment of hyper inflation, it is unconscionable for an organization to be charging 100 to 500 percent interest for these kinds of loans.

Although I would still prefer that the free market, instead of the government, demolish this industry. And perhaps they still can.

First, our education system needs to include a solid year of personal finance that explains in great detail how banking and credit really works on an individual level. Only until we have an enlightened citizenry on financial matters can we hope for a better utilization of banking and credit in this country.

Next, the free market needs to reach out to this underserved exploited market. Banks and credit unions need to educate this suspicious segment of consumers on how the financial system really works and what the real benefits are.

But most importantly, people also need to learn on their own that there are alternatives available instead of simply relying on the legalized loan sharks.

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