The pundit class routinely laments an American “divide.” Most often the latter is Democrat vs. Republican, but throughout time we’ve also seen labor vs. capital, rich vs. poor, Auburn vs. Alabama, and countless others.
Where it becomes interesting is when theoretical opposites actually work together. In a recent study conducted on the introduction of an interest-rate cap in Illinois, economists J. Brandon Bolen, Gregory Elliehausen, and Thomas Miller wrote about “the small-dollar installment loan industry, which was created a century ago by a collaboration between capitalists and activists who sought to pry loan business away from illegal lenders.” Who were those lenders? Readers can likely imagine they were “loan sharks.” But that’s a digression in a sense.
More interesting is that activist types generally associated with the Left teamed up with capitalists frequently associated with the Right in order to fix a societal wrong. Until then, those with the least were frequently forced to transact with unsavory characters if able to attain credit, only for a blend of activism and profit motivation to create an industry meant to serve those historically forced into the hands of the unsavory. The strangest of bedfellows launched a very necessary industry.
Looked at through the prism of 2022, it’s easy to say such a combination was too good to be true, and in a sense it was. Bolen, Elliehausen and Miller report that Arkansas has a “constitutionally-imposed 17 percent interest-rate cap,” and then in 2021 consumer-focused advocacy organization the Woodstock Institute aggressively promoted a 36 percent interest-rate cap in Illinois with an eye on protecting small-dollar borrowers from usurious rates of interest. Something about the road to hell being paved with good intentions comes to mind here.
Indeed, while Illinoisans broadly supported the idea of caps on loans, it’s apparent that the support had a surface quality. As the authors of the study note early on, “economic theory predicts that any price ceiling, which would include an interest-rate cap, may create shortages.” Translated, without the potential for profit there’s very little motivation. The lack of motivation subsequently revealed itself through a lack of credit for those most in need of it.
In an effort to protect subprime and deep subprime borrowers, the state of Illinois essentially shut those it aimed to protect out of legal credit markets altogether. Bolen et al produced voluminous stats supporting what “economic theory predicts,” but for the purposes of this piece it will be noted that the number of loans to subprime and deep subprime borrowers subsequently declined to the tune of 36 and 57 percent respectively.
The loan scarcity is a reminder that markets always speak, and that’s true even when political types work to mute the message of markets. In this case, cheaper credit can be legislated only insofar as access to credit is severely curtailed.
Notable about the inevitable shortages is that they had a racial quality to them. About it, it should be made clear up front that there’s no insinuation being made that small-dollar lenders themselves are racist. Not at all.
Instead, what’s being suggested here is that theoretically well-intentioned efforts made to protect subprime and deep subprime borrowers can be said to be inadvertently discriminatory toward black and Hispanic borrowers. In the words of Bolen, Elliehausen and Miller, “Most borrowers answer that they have been unable to borrow money when they need it following the imposition of the interest-rate cap, including over 60 percent of black borrowers and over 70 percent of Hispanic borrowers.”
Again, there’s no suggestion of overt racism with these statistics, and it’s plainly not the suggestion of the study’s authors either. What’s apparent, however, is that legislation billed to protect subprime and deep subprime has had the effect of limiting lending to black and Hispanic borrowers the most.
It’s all worth keeping in mind as politicians in a broad sense promise to “bend the cost curve downward” in terms of products and services most desired. They can do no such thing without shrinking the availability of the products and services desired. Yet again the road to hell is frequently paved with good intentions. And in Illinois, the pavement arguably leads the desperate back to loan sharks.
