Norman Googel thought he had done a pretty good job running payday lenders out of his state. As an assistant attorney general in West Virginia, Googel used the state’s usury law to close down payday lender storefronts, which had been using the charters of out-of-state banks to skirt state law.
“We cracked down on that approach,” Googel says. “After that we thought, ‘Well, now we’re done with payday lenders.’”
But in 2005, Googel received his first complaints about online payday loans. Internet loans quickly proved even more insidious than loans from brick-and-mortar stores. Their high fees sometimes amounted to interest rates as high as 780%, Googel says.
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And because online payday loans are tied directly to the borrower’s bank account, consumers often find themselves in a hole they can never escape.
“Pretty soon people can’t pay their mortgage, their car payments. They can’t buy groceries,” Googel says. “Some people are just completely ruined. It’s much harder to stop online payday lending.”
The dangers of subprime loans are well-documented. In past articles, Credit.com has explored problems with payday loans, prepaid debit cards, subprime mortgages, high-fee credit cards and bank overdraft fees.
Nevertheless, subprime loans only exist because they accommodate a market demand, one that is unlikely to disappear. What, then, would happen if suddenly subprime loans were banned altogether?
The short answer: Many bad things.
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“If people need a loan, they’re going to get it,” says Steven Schlein, spokesman for the Community Financial Services Association, the trade association for payday lenders. “They might get it from an illegal web site. Some may go to the mob. Or maybe they go to a local bar where they hear they can get an illegal, short-term loan.”
Many consumer advocates agree. Simply outlawing certain types of loans doesn’t necessarily leave consumers better off.
“Let’s say I get paid on Tuesday, but my rent is due Monday,” says Rachel Schneider, innovation director at the Center for Financial Services Innovation. “Banning payday loans doesn’t solve the very real problem of cash flow mismatch for low-income people.”
What would a world without subprime loans look like? To understand that, we need to look first at the many different kinds of subprime loans, and the ways in which they often hurt consumers who need them most. Next would be an examination of some real-life examples of what can happen when financial tools like payday loans are banned. Finally, we would try to imagine a world where subprime loans still exist, but are made more affordable and more useful for the average consumer through a combination of public regulation and private competition.