Are payday lenders and cash-checking businesses good at what they do? Many Americans view them with suspicion, thinking that they are ruthless in preying on the poor by charging outrageous interest rates to people who are in desperate need of cash. But some evidence suggests that these businesses are not even competitive in their own market.
A recent report from the Milken Institute studies a pilot program run by the Federal Deposit Insurance Corporation that involved banks making small loans of $1,000 or less to consumers with poor credit.They charged rates less than one-tenth the typical rate of payday lenders, and offered slightly longer terms.
That program was a success, noted the Milken Institute. Also, according to the report, other new companies have successfully employed a similar strategy outside of the pilot program.
Those results suggest that payday lenders, which are themselves a relatively new phenomenon, with their numbers increasing from a few hundred in the 1990s to 20,000 today, could be forced to offer better rates to their customers if they faced more competition.
The finding is timely because it comes amid a push to offer simple banking services through the U.S. Postal Service.
The USPS Office of Inspector General released a white paper in late January suggesting that offering banking services through post offices might allow the distressed USPS to provide a valuable service to a broad swathe of the public while also shoring up its own finances.
Sen. Elizabeth Warren, D-Mass., who made a name for herself among liberal Democrats by working on government policy concerning consumer finances, quickly picked up on the suggestion, writing in a Huffington Post op-ed in February that she was “going to spend a lot of time working on” the idea of postal banking.
The OIG identified a few advantages the Postal Service would have in the market for low-end financial services. In addition to a strong brand name and familiarity with processing money orders, the USPS’s ubiquity would provide it with an edge over any competitor. There’s a post office in every zip code. That's over 35,000 offices and branches spread out across the country and in every poor neighborhood.
Location is highly important for serving the poor and under-banked. The Milken Institute found that in California counties with more banks per person, there were fewer payday lenders per person.
The problem is that the number of banks has been dropping precipitously. The FDIC reported in December that the number of insured banks countrywide had fallen to 6,891, the smallest number since “at least the Great Depression,” according to the Wall Street Journal. December saw the first new bank since December of 2010.
That contraction has coincided with the rise of payday lenders and cash-checking businesses.
The alternative financial services industry thrives because there is strong demand. There are 34 million underserved households, according to KPMG -- 28 percent of all U.S. households. The average underserved household has an annual income of about $25,500 and spends about $2,412 for financial services, which is a staggeringly high proportion. Many use payday loans for every day, recurring expenses and fall further into debt trying to make interest payments.
There are immediately obvious drawbacks to the USPS trying to compete in that market. Large bureaucracies do not change missions easily. The fact that America’s biggest banking chains have not found a way to profitably offer simple banking services to the underserved is evidence that the USPS would struggle even more to do so.
Furthermore, payday lenders may enjoy subtle advantages over banks that a bureaucracy would not be able to replicate. The New School professor Lisa Servon worked as a teller at a check-cashing store in the South Bronx and found that its customers appreciated its services for reasons that weren't obvious coming in, including a level of trust and familiarity with the store that they couldn't find elsewhere.
Lastly, there are other institutions with a broad geographical reach that might beat the USPS to the punch. For instance, Walmart, with its more than 4,700 locations nationwide, is probably just as well positioned as the USPS to profit from branching into the $89 billion industry of simple banking.
Nevertheless, with Sen. Warren as a champion, the possibility of postal banking in the U.S. is an idea to watch.
Happening this week:
On Wednesday the Census Bureau will publish new housing starts for January. Analysts expect just under a million housing starts, a slight decline from December.
Also Wednesday, the Federal Reserve will release the minutes from its January meeting. The notes should contain a few clues about how central bankers felt about continuing the taper, as well as anything relevant outgoing chairman Ben Bernanke might have said before handing the reins to Janet Yellen.
The Bureau of Labor Statistics will release the Consumer Price Index for January on Thursday morning. CPI inflation picked up slightly in December, but is expected to slow again slightly in January. At 1.5 percent, year-over-year inflation remains well below the Fed’s 2 percent target.
And on Friday, the National Association of Realtors will publish data on existing home sales for January, completing the picture of the housing market’s health heading into 2014.