It’s a little long but this New Yorker article does a great job of explaining microcredit as does this shorter piece by Karol Boudreaux and Tyler Cowen. For those of you not familiar with micro lending, basically relatively poor people in developing countries are loaned small amounts of money (10s to 100s of dollars).
As the New Yorker article discusses interest rates for micro loans in developing countries can still approach over 100% APR a year. The article also contrasts two current models of micro loans, one which works as a non-profit and one which makes a profit. So what is different between micro credit and payday loans, besides a slightly smaller interest rate. In microloans in developing countries:
1.) The money is supposed to be used to purchase something that will help generate future income.
2.) Loans are made in typically smaller amounts at first then building to larger amounts as the borrower shows they can repay.
3.) Borrowers are often put into groups of about 10 members. All group members must repay their loans or all borrowers lose the ability to borrow in the future.
4.) The programs often include financial education, and require borrowers to save some part of their loan.
5.) Running loan offices may be cheaper in developing countries, since labor is often much cheaper in developing countries, so interest rates can be lower than in the US check cashing places.
So what is the answer to addressing the problems caused by check cashing/ payday loans places in the US. I think in part it creating a way to allow people to manage their finances better.
One step in the right direction might be the Russell Simons Rush Card. Its basically a pre-paid credit card. It also offers direct deposit and check cashing, at fees that seem lower than the average. The card is aimed at the millions of Americans who are without a bank account.
If this could be linked with microloan program that included grouping borrowers and perhaps financial education. I’m however unsure of the ability of the free market and the government to provide that financial education, so I guess it is up to teachers like me.
10 comments:
Payday loans are used by millions because they require little paperwork and little time. Most importantly, people are exercising their inalienable right to choose how to manage their own money. This is a right that should never be taken away. payday loan
Knowing that there are check cashing services available is such a help. Sometimes you need money fast-and check cashing is a great way to get it.
Normally I delete Spam comments as like the three above, but I think these comments are indicative of how competitive the industry is.
I don't think grouping people together in order for them to borrow payday loans would work in the United States. I think that many Americans would object on the grounds that other people's repayment or non-repayment of loans should not affect their ability to take out future loans.
In Ohio there is an issue on the ballot to limit the interest rate that can be charged to 28% and to lengthen the repayment period. This may seem like a good idea at a glance, but in the end it will most likely cause payday loan places to close and leave people without an option if they need a small, short-term loan.
One possible way of educating people about these payday loans would be to have some sort of loan interview similar to the entrance interview that students must take in order to take out student loans. This interview could be done online before coming in to get a loan, on a computer in the payday loan office, or in person with a person working at the payday loan center. The interview could go over the true interest rate of the loan if it was computed for a year instead of just a few weeks. The interview could also cover how much money a person will end up paying in interest on a loan if they have to take a new loan to cover their debt from the previous loan, and how quickly these charges can add up if this happens a few times in a row.
Payday loans are quick and convenient with little hassle. They solve financial problems immediately and are completely confidential.
I think these microloans seem like they would be effective. There is a lot of accountability that would assure people paying back the money they borrow. I like that if someone borrows and pay back, they are allowed to borrow more money next time. Also, it is a good idea to put people into groups and if one person doesn't pay, the rest of the people can't get loans- however, it may seem a little unfair to the people who are paying back. I think it is a little hard to tell if someone is going to use the money for something that will help them make more of their own money in the future.
Yunus, while optimistic down the road, seemed aware of the problems associated with America when it comes to introducing microcredit. For one thing, as I recall, there's little money to be made on really small loans. Plus, people here can't simply take out a small loan, launch a business, and surely make a profit. In other countries, there are more abundant opportunities for persons to make money by simply owning the means of production for a small business of selling products and services they supply; in America, you can't simply take out a $100-$1000 loan and expect to be in business selling your own product on the street, door to door, etc. (with the internet, and already very competitive firms about, what are you going to assure you can sell profitably that isn't already in the market? Small chunks of money nowadays won't take you very far here versus in some places abroad)
Payday loans are probably one of the closest things Americans have to microcredit, but as you all have been pointing out, there there are still many fundamental distinctions to be made. Microcredit firms have more leverage, as payday firms would probably have problems if they made it their policy to not give out loans a second time to persons who didn't pay-up the first time. Repeat customers are essential to their viability.
Part of it probably has to do with the priority of the profit objective, as microcredit banks, such as KIVA, can receive funding via other additional outside sources like donations, so of course they can afford to make the lending process a more educational, group-oriented, and worthwhile experience. Their objective is to get to the root of the problem so that people don't need to come back and take out another loan (or at least as few as possible), ideally. A payday lenders' objective is simply to treat the symptoms of the underlying problem, and if they get repeat business than that's a plus.
I think payday loans provide consumers with an additional, less costly choice for short term and unexpected expenses. Definitely not for people who tend to mismanage their money and overspend and they shouldn't expect that payday loans are going to magically fix their problems. This service should be used responsibly and the first step is making sure you go to a reputable lender, such as those who are CFSA members and are required to abide by their Best Practices and regulations. Get all the information about the product and then make an informed decision on whether or not it's the best choice for your own situation.
It's not free money and shouldn't be considered as such.
I think it putting customers into groups and making them all repay for future loan agreements is going to cause chaos and upheavel because if 9 people out of the group are good on paying their loans and that 10th person isn't, those 9 other good customers are no longer allowed to take out loans. With Payday loans anyone can have a loan out as long as they are qualified.
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