What do they Actually Pay? the True Cost of Borrowing in the PayDay Lending Industry

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Marc, A, F
James, A, K
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Hilton New York JFK, Jamaica-Queens, New York
In 2011 the payday loan industry is estimated to have lent $32 billion, collecting $7 billion in interest and fees (Dougherty, Carter, "Consumer Bureau Focuses on Payday Lending", Bloomberg Business Week, January 19 2012). The peak of payday lending came in the past decade but has started declining (Alp er, Alexandria, "US Payday Lenders Point Fingers to Blunt Crackdown", Reuters, January 20, 2012) with increased regulation and enforcement. In the case of regulation, the most common policies are caps on interest rates charged to borrowers; such caps motivate this paper. Our hypothesis contends that the effective interest rate after accounting for defaults and late payments is significantly less than the posted interest rate. To test this we employ a database of 7,709 borrowers in six states and calculate the true interest rates that borrowers paid on these loans and how much, if any, they deviate from the advertised rate. In order to achieve this we calculate the internal rate of return -interest rate- for each borrower's series of loans. Our results show that a payday loan customer on average pays a 6.9% interest rate on a two week loan, or 180% when annualized. This is opposed to the typical 16.9% calculated posted rate attached to such a loan which equates to an advertised annualized rate of 438%. Further we investigate the factors that are correlated with this lower interest rate and investigate how operating costs reduce this figure even further.
IPPEAN Conference Proceedings
Payday Loan , Interest Rate , Default , Consumer Credit
Marc, A.F, James, A.F, (2016) What do they Actually Pay? the True Cost of Borrowing in the Payday Lending Industry. New York: IPPEAN