Payday lenders have come under attack from critics who complain that they prey upon the poor and mire them deeper in poverty. With annualized interest rates as high as 1,000 percent, the cost of a payday loan is high indeed.
A new study, however, suggests that payday loans help some households in a crucial way, enabling them to buy basic necessities, such as food.
Katie Fitzpatrick, a professor at Seattle University, and Alisha Coleman-Jensen, a researcher with the U.S. Department of Agriculture, examined the relation between payday loans and different measures of food hardship. One measure, “food insecurity,” applied to households that at times lacked sufficient food. “Marginal food security” included households that were food insecure but also households that worried about food but in the end were able to obtain enough. “Food inadequacy” referred to households that reported not having enough money for food.
Their study, published in the December 2014 Social Service Review and called “Food on the Fringe: Food Insecurity and the Use of Payday Loans,” offers evidence that households with access to payday loans are at a lower risk of marginal food insecurity than households that don’t. It also shows that states with laws to discourage payday lending have higher rates of food insecurity.
Payday lending is a big business. Across the country, nearly 20,000 stores lend more than $40 billion each year. Payday lenders require that borrowers have both a job and a bank account and offer them loans against their next paycheck. The fee for a two-week loan of $300—–the average is around $350—–ranges from $45 to $90. Often borrowers don’t or can’t pay back the loans immediately but roll them over for another period, incurring still higher fees.
Is such lending good or bad for families? While the research doesn’t answer this question, what is clear is that payday loans provide access to money for people who lack it through ordinary kinds of credit, such as credit cards, to borrow money when they really need it. It’s not the only way. They also frequent pawn shops, use rent-to-own schemes, or borrow on expected tax refunds. In the case of payday loans, the high fees can end up costing less than paying overdraft fees or having utilities shut off.
Some states attempt to curb the excesses of payday lending by regulating the interest lenders may charge. This effectively prevents them from operating in these states.
Data about payday lending is hard to come by. The authors were able to link payday loans with food security using data from the annual Food Security Supplement to the Current Population Survey and a survey on the use of banks and fringe banks by the Federal Deposit Insurance Corporation. The data included 20,518 households surveyed in December 2008 and January 2009.
The authors found a clear link between payday loans and improved material well-being. Households in states that limited payday loans had a 1.4 percent higher rate of marginal food security and a 2.3 percent higher rate of food inadequacy. Compared to similar households in states that curtailed payday lending, households that took out payday loans had a 53.6 percentage point lower risk of experiencing marginal food security over the previous 12 months and an 87 percentage point lower risk of experiencing food inadequacy. State limits on payday loans are related to a 7.4 percent increase in overall food insecurity rates from 2001 through 2012.
“While payday loans are an expensive form of borrowing,” the authors write, “many households that are at risk for food insecurity have few good options when facing a gap between income and expenditures.”
Almost half the respondents who took out payday loans said they did it to meet basic living expense. One in five said they did it to make up for lost income. About 44 percent said they had sought a payday loan only once in the previous year; 23 percent said they had gotten a loan five or more times. The average was twice.
The new federal Bureau of Consumer Protection is now drafting regulations that would limit the number of loans that payday lenders could make to an individual. At the same time, Fitzpatrick says that new lending tools are being developed to give households with poor credit histories access to short term loans without forcing them into financially ruinous lending.
“We don’t want to defend the industry,” Fitzpatrick says, “but it serves an important role, and this role could be served by other instruments that don’t put people into such indebtedness.”
Fitzpatrick, Katie and Coleman-Jensen, Alisha. “Food on the Fringe: Food Insecurity and the Use of Payday Loans.” Social Service Review, 88 (4): 553-593.