Last week, Bernie Sanders and Alexandria Ocasio-Cortez released a new piece of legislation that would cap credit card interest rates at 15% called the Loan Shark Prevention Act. The two argue that this kind of intervention in the markets is necessary in order to protect consumers from the “greed” of the credit card and banking industries. Sanders and Ocasio-Cortez both believe that banks and credit card companies are taking advantage of the poor by charging “extortion level interest rates.
The average card interest rate offered to those with good credit is 17.73%, while those with lower scores see an average rate of 24.99%.” Capping interest rates at 15% would allow low-income individuals with lower credit scores to not be charged increasingly high rates, or so they argue.
While the purpose of their bill is admirable, this type of policy would have disastrous effects on the very people it is intended to help.
In the 1800’s and early 1900’s, there were similar caps that were placed on interest rates. Lenders at the time could not charge interest rates higher than 6-10% a year. Progressives at the time fought to have these regulations removed because it was restricting access to credit for the poor. Rather than forcing lenders to provide lower interest credit to the poor, it denied them any credit at all. Wouldn’t you be hesitant to loan your money to someone that was not likely to pay you back? Banks had to operate with the same mindset in order to stay in business.
These barriers to credit for the poor could be devastating, just as they were in the past. It could also incentivize risky behavior and fuel black markets for credit.
The Loan Shark Prevention Act is also reminiscent of many of the post-Financial Crisis regulations on banks. The Durbin Amendment set a ceiling for fees that banks could charge businesses for using their debit cards in order to try to minimize consumer costs. But this bill merely forced banks to find revenue elsewhere, in this case by enforcing new fees on bank accounts and by requiring higher minimum balances for those accounts. While businesses may have seen some of their costs decline with respect to debit card usage, consumers have not seen those benefits. With over 27,000 new regulations since 2010, it seems obvious that more regulations on the finance industry is not the solution to lower costs for consumers.
This new regulation presented by Sanders and Ocasio-Cortez would also apply to payday loans, which are loans used by low-income workers that don’t have access to traditional banking due to low credit scores. These are very short-term loans that are usually paid back in a lump sum on the worker’s next pay day. “A typical two-week payday loan with a $15 per $100 fee equates to an annual percentage rate (APR) of almost 400 percent.”
While this extremely high interest rate may seem alarming, one should realize that these loans are repaid within the typical two-week timeframe, and the annual percentage of 400% is never realized. But if this 15% cap were enforced, this type of loan would disappear entirely and many credit-constrained Americans would lose access to most legal types of credit.
Sanders and Ocasio-Cortez, however, believe they have a solution to these problems. They want the Postal Service to become a lender and offer banking products. But the Postal Service has none of the technology nor skill to be any type of lending service. How will they gain those necessary skills and expertise? Public banking hasn’t been a huge success elsewhere in the world either. Why would this plan be the exception?
Financial institutions should be deregulated in order to serve the greatest number of individuals. Increasing regulations will only put a greater burden on banks and lenders and disincentivize lending to low-income individuals. The Loan Shark Prevention Act would do a huge disservice to the people it is intended to help and would slam the door shut on some of the last lines of credit for low-income people.