Payday Loans and the Military

Members of the military take out payday loans "three times as often as civilians" and often end up in financial trouble:

On Payday, Many GIs Pay Back, by Annys Shin, Washington Post: Six months ago, John Elliott, a sailor based at Norfolk Naval Station, was having trouble keeping up with his bills, so he ... took out what's known as a payday loan, borrowing against future paychecks in exchange for money on the spot.

Elliott borrowed a total of $1,600 from four lenders, but the high fees he was charged each time he took out or renewed his loans made them hard to pay off. In another six months, his debt could balloon to as much as $4,480. "I thought I would pay it off in a couple of months," he said. "It's taken longer than I thought."

Elliott's experience of a short-term loan turning into a long-term liability is a familiar scenario to payday customers, many of whom live from paycheck to paycheck and have little access to other forms of credit. A Defense Department study published last month found that members of the military use payday loans three times as often as civilians.

To get a payday loan, all a borrower needs is a checking account and a pay stub. There is no credit check. The borrower simply hands over a post-dated check for the amount of the loan plus fees or gives the lender authorization to automatically withdraw money from a bank account.

But the fees can be high, averaging $15 to $30 for every $100 loaned. If a borrower does not pay back the loan by the next payday, the lender can deposit the check or take the money from the borrower's account. The borrower can also renew, or "roll over," the loan, incurring another round of fees. All told, such fees can add up to an annual percentage rate of 400 to 700 percent.

Though payday loans are supposed to be used for the occasional cash crunch, many customers repeatedly renew or "roll over" their loans. Studies ... found that payday customers renewed loans an average of 10 to 13 times in one year.

Consumer groups say the way the loans are structured makes it easy for low-income earners to get in over their heads. "These are loans made without regard to ability to pay to people who have trouble making ends meet," said Jean Ann Fox, director of consumer protection for the Consumer Federation of America.

Payday loans have caught the attention of Pentagon officials and members of Congress, who worry that the high fees contribute to financial problems among military personnel.

While it's bad enough for a civilian to fall deeply into debt, the consequences for members of the military can be far more severe, including the loss of security clearance or a court-martial. Those consequences make military personnel the perfect clients for payday lenders because they have extra incentive to pay back loans, Fox said. ...

In the Navy, security clearances are being revoked or denied for financial reasons at eight times the rate they were four years ago. The Pentagon has asked Congress to limit what payday and other lenders can charge active-duty military personnel to an annual percentage rate of 36 percent. The cap would include all fees.

The payday lending industry is fighting the cap, saying it would cut service members off from a much-needed source of credit and drive them to less regulated alternatives, such as offshore Internet lenders.

Department of Defense officials, however, feel the need to act, as payday lending storefronts have clustered near large military installations... What attracts payday lenders to bases, the Defense Department report said, are thousands of young, financially inexperienced service members who have bank accounts and steady jobs but little savings and, often, flawed credit. ...

Other than lack of information, which the military can solve by giving the needed information to military personnel, I don't see the market failure that requires government intervention (another solution is for the military to make the loans itself). Is there something stopping firms from entering this industry, competing with existing firms, and driving down interest and fees to the competitive level? I'm not endorsing these loans, but if there's no substantial market failure, what's the basis for the regulating these markets?

Update: Comments don't agree. Even the conservatives say I'm a cold-hearted free-marketeer, or something like that, on this issue...

Comments

[Bruce Webb]

Usury.

It is a word. It used to be a sin in Christianity. It still is in Islam. That classical or neo-classical economists just see this as just another market doesn't astound me.

Sadden yes. Astound no.

Mark if you can draw a bright line between paycheck loans and Mafia backed loanlenders I would appreciate it. When these service people go into default do you think these lenders just eat the loss?

"Is there something stopping firms from entering this industry, competing with existing firms, and driving down interest and fees to the competitive level?"

Yes, the fact that there is nothing securing these loans. The problem with payday loans has exactly zero to do with lack of market competition. There is plenty of that.

If you don't understand that charging you $3 dollars tomorrow for a $1.50 beer drank today is something more than a open market transaction then I suggest you make a little visit to the bars and markets of Springfield Ore, just across the freeway but a whole different world.

[Bruce Webb]

"But, but, but! the chick at the Lending Tree had such a nice smile!! Who are you and why are you carrying a bat?? Anybody can get laid off, can't you give me a break?"

Ouch, maybe "give me a break" was ill chosen in this context.

[baileyman]

Maybe not a market failure, but certainly a sterling opportunity for a co-op business to step in. Perhaps an armed forces mutual savings bank or credit union. The credit quality of the collateral provider in this case is the best (the USA), so running a business that demands high fees to take essentially no credit risk may be good for the owner, but begs the question, why should such an opportunity exist in the first place.

I find that when looking at a business if I ask whether some necessary and desirable product or service would be better provided to the customer by a for-profit or a co-op, a surprisingly large number look better for customers as co-ops.

[save the rustbelt]

You have here a lot of young and unsophisticated people under huge, massive, crushing amounts of stress, and vulnerable due to the need to "get by."

So why does this require intervention?

Why not let the sick jackals prey on those who are doing the fighting and dying while we make good incomes and live comfortable lives?

By the way, sleazy life insurance salesmen have been victimizing the same families with overpriced crap products (and the elderly are another favorite target).

Mark, stop thinking like an economist a moment and think like just another human being.

[Ted]

There are plenty of credit unions available to the service members and there are financial aid organizations as well -- such as AER -- Army Emergency Relief.

The problem with these usury vendors is that currently, the government will enforce the debt, but not until the obligation has grown astronomically (and that's by the usury vendor's design).

[Mark Thoma]

str - given your views on Social Security and the government stepping into the private sector generally, that's surprising coming from you.

First, you identify the military separately from others. I'm surprised you would say these adults aren't smart enough to keep themselves out of trouble the way other people can. Is that a recruiting problem? I don't think they need special protection over and above that accorded to others their age. And where's the personal responsibility you are generally so quick to assert in other arenas? Why is the information problem here more severe than, say, in health care where you do not want the government involved?

What should the government do? Outlaw them? Set usury caps on interest rates? Not let military people take out loans and insurance? Kids make mistakes, I made mistakes when I was young, spent my money on dumb things sometimes, bought extra stuff that was a ripoff on new cars, etc. That's part of growing up. You learn. The solution is information and growing up, not government intervention. We can't possibly protect people, through government intervention, from all the ways they might spend their money that the government deems are unwise.

If it's a big problem, why isn't the military telling these people "this insurance company..." or "this way of taking a short-term loan...," i.e. giving them the information they need to make good decisions. If they go out and do dumb things anyway after there can be no doubt they've been given the information, well, sorry, but I don't see where the government needs to step in and stop them. And if they are told these things by the military, that makes them a lot better off, information wise, than a typical person that age.

We might look at why they are turning to these loans in the first place - maybe that's where they need to be given more information, information to avoid getting into a situation where they need these loans (Pay them more? Give them life insurance as part of the package so they aren't subject to being taken advantage of, etc.?).

People spend their money on overpriced goods all the time (and we don't stop them from buying something at, say, 7-11 because it's a ripoff compared to Costco, we give them the info and let them optimize).

As I said, I'm not defending the industry, not at all, but I don't see any market failure that can't be solved by giving people better information. But once they have the information, I see no reason to tell them what they can and cannot do.

I'm not a nanny and I don't want a nanny state if "nannying" means the government tells me what I can and cannot do with my time, money, etc. I believe market failures should be fixed (and they exist in the insurance markets you reference), and that inequities in opportunity should be addressed, but I'm not one who believes the government should protect us from ourselves.

[Bruce Webb]

Mark we are talking kids 17-20 years old. Bright enough maybe but if they really had the combination of intelligence and planning to be college material they would be in Eugene and not in Camp Lejeune. Christ we barely trust Freshmen to run their own lives, how may dorms don't have RA's? Does the U of O not have a Student Counseling Center?

Yes kids do dumb stuff. It may even explain why I dropped out of college at 20 and ended up in the Navy. And yes there have always been predators hanging around military bases willing to sell you that overpriced car that on the surface is a "deal" or that girl who really likes your face but happened to leave her purse at home so couldn't you just buy her a drink and maybe lend her $10 for cab fare?

But I don't see how setting a 36% APR cap on loans to teenagers serving our country is going to strike a dagger through the heart of capitalism.

When I was serving on the Decatur while it was being overhauled in the yards at Bremerton we sailors were given a choice. We could eat on board the berthing barge for free or we could take a set cash rate and eat wherever we wanted, I think it was called 'ComRats' (Commuted Rations). We could eat on board for cheap and pay a nominal sum or eat out. And if you ate every meal on ship you would come out even. Now given that even the people who took rations were bound to have a burger sometimes out in town it made sense to take the cash equivalent because otherwise that dollar was coming out of your wallet and your paid for ration was sitting uneaten. For Homo Oeconomicus the decision to take the cash was a no-brainer, taking rations instead of ComRats was to leave money on the table. Unless you ran out of money four, five, six days ahead of payday and literally were starving because you couldn't pay for food. Kids that confidently chose to take ComRats initially went back on rations after a couple of months because while it is one thing not to have enough money two days before payday to buy a movie ticket, it is something else to not have enough money to eat breakfast.

The day the University of Oregon and all its Faculty decides they have no responsibility for the students under their care is the day that we should allow teenagers serving in the military to be open marks for market predators.

[Bruce Wilder]

I'm a little disappointed in your response, Professor.

700% interest and no one is stepping into to offer these people a better deal? (Not to mention, an institutional response, which is bit better adapted to their circumstances and age?) I think we can safely conclude that a market failure exists, even if we cannot identify it, from the available information.

Market failure analysis, ideally, might be a good basis for an engineering discipline, but it makes for a sophomoric politics and a really lousy religion.

[Mark Thoma]

I never said that if a market failure exists it shouldn't be fixed, I'm more of an advocate of government fixing market problems than most. I simply asked what it was because beyond information, I couldn't find it.

Nor did I say that young adults shouldn't be helped to make good decisions and did not mean to imply that those in the military do not have special characteristics as a population, especially when active duty is a possibility or reality - the military should look into why so many are having these financial problems (there's been a big increase) and do what they can to help. With people deployed and all the problems that comes with that financially and otherwise, they should have short-term lending facilities, provide insurance, all sorts of stuff - more than they do now would be my preference (and pay them more too). Once all of those are in place, and info provided, how much more can we do to protect them from what they choose to do off-base? I'm still not ready to regulate the markets (I don't mean that there should be no full disclosure regulation, etc. - all the info about these loans needs to be on the table in explicit, easy to understand terms, a reason for having these loans out in the open).

There were times in graduate school when I might have been tempted to use loans like this. One month in particular comes to mind when I tried to make chicken noodle soup from spaghetti noodles and chicken bouillon - that was literally all I had to eat for a day and a half. I'd have paid $30 to borrow a hundred bucks for a few days - anything not to eat that again. The worst Top-Ramen ever. And it might have been better terms than selling my stuff I kind of needed at a garage sale, the other choice I thought about.

When people need money, when they are desperate for it, they are going to make deals to get it - pawn shops, yard sales, loan sharks, brothers in law they'll be beholden to forever, ... Maybe it's better to have it out in the open?

On the UO - we actually do just the opposite. For example, during class scheduling, parents are made to wait outside - they cannot come along and interfere. Students are adults and treated accordingly. If I were to, say, call a student's parents to talk over their performance that would violate their privacy and I would be subject to sanctions. I don't have any power to tell them what to do. I can give advice, if they ask and if they'll listen, but that's about it.

They used to give parents a book at orientation on how to let their kids go, not sure if they still do.

A student that voluntarily subjects themselves to the dorms has some oversight (not much though), but the UO has no oversight whatsoever for students living off campus. We do have a code of conduct - but mostly it defines what stuff will get you kicked out of school and it's a bit vague on how off-campus behavior ought to be treated. We certainly don't comb the police blotters looking to see if any code has been violated, but there are things that come to our attention. I believe there's quite a bit of discretion.

I was chair of the scholastic review committee for the last five years - we kicked people out of school and let them back in - and I think I saw just about every way a student could get themselves into trouble. Some I never would have thought of. Counseling staff were on the committee and I really came to respect their devotion to helping students navigate both school and life. Too bad more don't take advantage of what they have to offer.

We do have a responsibility to provide a safe atmosphere for the students, an environment where they can learn, etc., but that would be true no matter their age. They are adults and, as such, our power over them is quite limited. But please don't get me wrong, I understand they are young and prone to the mistakes of their age, I of course watch out for them, do what I can to help them navigate into adulthood, part of our job is to help them make the transition into thinking adults. There are lots and lots of things the university does to try to help. We could, for example, require alcohol education of all enrolled students, that kind of thing, and there is some of that, but it's generally in the realm of providing the information they need to make good choices. As I said, I can't make them do anything, only set the rules and hope they respond accordingly. If they want to use a payday loan, there's really nothing I can do to stop them except, if they ask, advise other things that might work better, i.e. give information.

[Ted]

Prof Thoma said: One month in particular comes to mind when I tried to make chicken noodle soup from spaghetti noodles and chicken bouillon - that was literally all I had to eat for a day and a half.

Things don't change much. From a story in the NYT, Sept 9, 1984, MILITARY FAMILIES STRUGGLE FOR BASICS OF LIFE:

Instead, she and her husband and their three children are living in a tiny automobile trailer parked in a dusty, bleak campground in the heart of this Army base, along with dozens of other military families.

''They told me there's a waiting list for housing on base of seven months,'' she said, ''and the only places you can rent off base that will take three kids is $1,100 a month. Who can afford that?''

On Aug. 27, Danny Holley, the 13- year-old-son of another soldier whose family was financially distressed and had been troubled by bureaucratic snarls, hanged himself near Fort Ord after telling his mother, ''If you didn't have me to feed, things would be better.''

The teen-ager's suicide has focused new attention on economic hardships that are bedeviling the families of many enlisted men and women, especially those based in regions of the nation where housing costs are unusually high, like here on California's Monterey Peninsula.

These days, one doesn't have to be on the Monterey Peninsula to get a piece of this.

[Andy]

I'll jump in and agree with you, Mark, that 1) outlawing these types of loans really would open to doors to the mob, etc., and that 2) there are legitimate reasons for people to need short-term unsecured loans. Most people these days can use their credit cards in an ATM to get cash ASAP, although also at a high rate. Maybe the government should subsidize short-term loans to military people? Or provide more credit counseling?

[crack]

Using colleges as an safe haven from usury is a losing argument. I can't count how many credit card booths I've seen on college campuses.

[billy]

Mark Thoma..
"We do have a responsibility to provide a safe atmosphere for the students, an environment where they can learn, etc., but that would be true no matter their age. They are adults and, as such, our power over them is quite limited. But please don't get me wrong, I understand they are young and prone to the mistakes of their age, I of course watch out for them, do what I can to help them navigate into adulthood, part of our job is to help them make the transition into thinking adults."

You are severely overestimating the "adult" part.

Most of the kids are never taught about money. The three "R"s, hygiene, grooming, sex - yes. But not about money. Americans have a feeling that the kids would "get it" about money. Maybe.
With the obsession about sex, it should be the taboo topic at home. I think the taboo topic at home is money. Many parents themselves dont know how to handle money.

The army teaches the young recruits about spit and polish - why cant they teach them about money?

About government intervention -

Grant an advance on the next paycheck - charge the interest needed, and dock the loan from the next paycheck. This is going to raise gripes about government doing banking, but throw the bucket at the gripers. Heck, this is standard practice in many countries - the employer gives an emergency loan for an employee.

[Ken Houghton]

Mark - What about the solution to Ted's point (Sep 10, 2006 7:39:43 AM) that debt enforcement will occur only when the debt is too large?

Under Ted's description (which I presume to be accurate), there is a Barrier to Entry: the debt will not be enforceable unless it is large. (In a perfect world, the debt could be enforced by the cost of, say, small-claims court.)

Given that there is a financial incentive to the company to make the debt larger, there is also a Barrier to Entry in that, e.g., BofA will not offer such a "bridge loan" (which is essentially what we are discussing) to its customers for small amounts (in the same way that I would have no problem getting a $100K HELOC from my bank, but a $100 secured-by-paycheck LOC is not offered).

Clearly, there is a reasonable regulatory solutionstreamlining the threshold at which debt repayment is required, making the "market" more competitive.

[Mark Thoma]

Thanks Ken - Differential enforcement does seem to be at work, but I hadn't considered enforcement minimums.