Interest Rate Caps Don't Protect Borrowers, They Just Make Borrowing Difficult

From Sacramento to Congress, there is an aggressive push afoot across the country to regulate a wide range of consumer loans through an arbitrary rate cap. While proponents of this effort claim it is to protect consumers from so-called “predatory” lenders, there is interesting evidence to suggest that something a bit more sinister might be going on to explain some of the motivation behind this reckless, populist crusade.

Rate caps are price controls, which reduce access to credit for millions of financially underserved Americans. You don’t have to look any further than the Consumer Financial Protection Bureau’s (CFPB) own analysis of their original rule regulating payday loans. While the rule doesn’t impose rate caps, the goal was to achieve similar ends; to rein in the payday industry in an effort to protect financially vulnerable consumers. The Bureau’s analysis of their rule found that“ payday loan volumes will decrease by 62 percent to 68 percent, with a corresponding decrease in revenue.” Additionally, the CFPB said “this decline may limit some physical access to credit for consumers, and this limit may be felt more acutely by consumers in rural areas.”

Thankfully, the Bureau is currently reconsidering this disastrous regulation. As for actual rate caps, not only would consumers lose access to safe and reliable credit options, there is also evidence to suggest that some lenders would stand to benefit substantially at the expense of financially vulnerable consumers.

Sure enough, the California Assembly recently voted overwhelmingly to cap some short-term small dollar loans at 36%. Our organization has been publicly opposed to this bill not only because of the consumer harm it will bring but also because of the fear of the well-known saying, “as California goes, so goes the nation,” coming to pass.  

What’s particularly striking about the California legislation, however, is that three lenders, Lendmark Financial Services, Opportun and OneMain Financial publicly support the bill. In a recent opinion piece, One Main Financial wrote that they chose “to self-impose a cap of 36 percent APR,” even in states that allow them to charge more, because that rate is the so-called “’sweet spot’” at which loans can be offered in a sustainable model.”

Besides the well documented evidence that arbitrary caps ignore the basic economics of short-term, small dollar lending, when we see companies supporting legislation that seeks to regulate them and their industry, it is a red flag that there is more to the story. And, a closer inspection of their business models and practices confirms my suspicions.

Some lending companies, such as One Main Financial, market and sell “add-ons” to their loans, which substantially drive up consumer costs. In a 2016 letter to the CFPB, a number of consumer interest groups explained how this works, noting in part that “although OneMain’s nominal interest rates are generally 36% or lower, OneMain aggressively markets credit insurance through its captive subsidiaries. The addition of credit insurance pushes the full cost of the loans above 36%.”

The reason why these companies can do this is because many state laws allow it, especially on installment loans. Studies by consumer interest groups, including the National Consumer Law Center (NCLC) and The Pew Charitable Trusts, have found that some state laws governing installment loans don’t protect consumers from predatory practices such as the selling of useless, ancillary products. While we don’t generally agree with these groups, on this point they are spot on.

The group letter to CFPB also points out how some of these companies engage in “aggressive debt collection practices” marked by “repeated harassing voice mails with veiled threats.” These actions have been at the center of numerous consumer complaints and lawsuits.

And, so what we end up with in places like California are so-called “consumer-protection” facing bills that in reality are just skewing the market in favor of companies that game the system at the expense of the very consumers the legislation is supposed to protect.

These types of rate caps will harm millions of consumers by denying them access to the credit they need, and in exchange push them toward higher-cost products they don’t. This isn’t consumer protection, its crony capitalism.

Lawmakers in Sacramento need to wake up and stop this dangerous shell game. Members of Congress should heed this warning as well.