Earlier this year, Alabama became the 14th state to try to protect consumers with a payday loan database. The database tracks lending within the state, and payday lenders are required to refer to it when considering new customers. This will help ensure that individuals stay below Alabama's limit on short-term, high-interest loans.
The payday loan industry has criticized the move, saying that the database will drive up lending costs. Restrictions like Alabama's also go against enormous consumer demand. Payday lending has become so popular that there are now more payday loan stores in the U.S. than McDonald's restaurants.
Will restricting payday loans, or eliminating them altogether (as 15 states have done), protect consumers? Maybe. It also might force people who really need the money to seek loans in shadier places. And that could be even worse.
What's missing here is a conversation about the underlying cause of the problem: financial illiteracy and ignorance. Many payday lending consumers have bad credit, or no credit, and many lack a basic education about how to manage their finances. Instead of restricting their options, I think it would be better to teach them how to avoid needing those loans in the first place.
Perhaps we could follow the example of the fast-food industry. Burgers and fries can be unhealthy if you consume too much. Yet states don't require restaurants to check databases of previous fast-food purchases before allowing someone to buy another burger. Instead, they require preventive nutritional education in schools. And some require restaurants to disclose the ingredients and calories in their food.
Why not take that same educational approach with personal finances?
Earlier this year, the Consumer Federation of America released a survey on household saving that showed that only about half of Americans reported good savings habits. Without adequate savings, unexpected expenses wreak havoc on most people's finances, regardless of income level. Would we be better off educating consumers on how to save rather than reducing the number of solutions available to handle a financial crisis?
I'm not saying payday loans are great, but I am asking you to consider if banning them makes the most sense in today's tight lending environment. Have you ever had a payday loan? Do you know someone who does?