Is the Solution to Payday Lending Better Disclosures?

by Jeff Sovern

As I have noted before, payday lending and deposit advances present a conundrum for me: how to permit those who genuinely have a short-term borrowing need and who can't get the money elsewhere to borrow without creating a long-term debt trap.  Recently I listened to hearing held by the Senate Special Committee on Aging titled Payday Loans: Short-term Solution or Long-term Problem?  The hearings included poignant testimony from Annette Smith in which she described how a deposit advance loan became a debt trap for her. The short version: her sole income comes from her Social Security payments.  More than five years ago, she took out a $500 loan to fix her car.  The following month that amount, plus a $50 fee was automatically deducted from her bank account when she received her Social Security. But she couldn't live on the remaining funds, and so borrowed again. The cycle repeated the following month, and went on for five years.  In all, she borrowed money 63 times, costing her nearly $3,000.  In effect, she paid nearly $3,000 to borrow $500 for five years.  And that's not unusual. According to the CFPB White Paper, Payday Loans and Deposit Advance Products, 14% of payday borowers/deposit advance customers borrow at least twenty times a year, and another 34% borrow between eleven and nineteen times a year. 

But another group takes advantage of such loans only occasionally: the Bureau's white paper found 13% borrowed once or twice a year. Some believe that payday lending should be banned even as to them because of its great expense, but suppose you want to permit the occasisional borrowers to use payday lending but not create a debt trap. How could that be done?

One possible solution might be a disclosure remedy in the hope that the disclosure would dissuade those who might fall into a debt trap from taking out the loans but not prevent the occasionals from using the loans.  I am not generally enthusiastic about disclosures, but one study, Marianne Bertrand & Adair Morse, Information Disclosure, Cognitive Biases and Payday Borrowing, 66 J. Fin. 1865, 1872-73 (2011), found a modest effect on payday borrower behavior when borrowers were shown a table comparing the cost of credit card borrowing and payday borrowing.  On the other hand, during the Senate hearing, industry spokespeople stated that consumers already receive disclosures warning that the loan they are contemplating is expensive. We know that that has not eliminated the debt trap but perhaps something stronger would.  The goal would be to construct a disclosure that is the equivalent of cigarette warnings, though as cigarette warnings have not completely succeeded in eliminating smoking, maybe something even more powerful is needed.

What should the warning look like?  Ideally, that would be the function of consumer testing.  My co-author, Chris Peterson, has argued that payday lenders should have signs reading "Warning: Predatory Lender." Perhaps that would do the trick, but I would like to see something more specific, like WARNING: This loan is so expensive that you should consider it only if you are DESPERATE to borrow the money, you cannot borrow the money elsewhere more cheaply, and you have a plan to pay it back next month so that you do not need to borrow it again and become trapped in debt, as many have."  I would then like the warning to list alternate lenders that might be cheaper. 

Another solution would be to require payday lenders to verify that their borrowers can repay the loans without becoming trapped, similar to the requirements imposed on mortgage lenders in some circumstances. But as that might drive the cost of such borrowing even higher, it would be better to avoid that route, if possible.  I would start with consumer testing to see if a warning reduced the number of people caught in a debt trap.

 

Ninth Circuit to Wells Fargo: keep your promises on loan modification

Yesterday, the Ninth Circuit ruled in Corvello v. Wells Fargo that when a bank tells a borrower it will modify his loan if certain conditions are met under the Treasury Department's Home Affordable Modification Program (“HAMP”), that promise is enforceable.

When Phillip Corvello applied for a home loan modification, Wells Fargo set up a trial period plan ("TPP") for him, under an agreement that "stated in the first line that if Corvello's representations were accurate and he complied with the terms of the trial plan, he would receive a modification offer." But then, although "Corvello alleges he complied with the TPP's terms, and made all three payments on time[,] Wells Fargo still never offered him a permanent modification, nor did it notify him that he did not qualify."

Seems like a straightforward breach of contract, right? But the district court threw the case out, holding that because the agreement stated that the loan wouldn't be modified “unless and until” the borrower received a “fully executed copy of a Modification Agreement,” the bank's promise to offer a modification was conditioned on the bank's own decision to provide a signed Modification Agreement later. In other words, the district court read the contract as giving the bank the power to undercut its own promise.

Reversing, the Ninth Circuit joined the Seventh Circuit in rejecting that reading of TPPs under HAMP:

 As the Seventh Circuit put it, Wells Fargo's interpretation would allow it to “simply refuse to send the Modification Agreement for any reason whatsoever—interest rates went up, the economy soured, it just didn't like [the Borrower]—and there would still be no breach, turn[ing] an otherwise straightforward offer into an illusion.” Id. We believe the reasoning in [the Seventh Circuit's decision] is sound. Paragraph 2G cannot convert a purported agreement setting forth clear obligations into a decision left to the unfettered discretion of the loan servicer.

A nice victory for homeowners.

 

Soliciting Comments on an Arbitration Study

by Jeff Sovern

I figure if it's good enough for the CFPB, it's good enough for us: 

I'm part of a team, along with other professors and the Hugh L Carey Center for Dispute Resolution here at the Law School, that is crafting a survey on consumer understanding of arbitration clauses.  Unlike the CFPB survey, which is a telephone survey, we plan to approach consumers on the street and ask them to read a credit card contract containing an arbitration clause.  We then will ask questions about the arbitration clause to see what the consumers understand: do they realize they're giving up their right to sue in court, to bring a class action, to seek a jury trial; what happens if the arbitrator rules against them, etc.  It's a little artificial because while we will ask the consumers to imagine that they have just received the credit card contract and to give it the same amount of attention (or lack of attention) they would give a real credit card contract, the way they respond may not be exactly the way they would respond to receiving a real credit card contract.  On the other hand, unlike the CFPB survey, it doesn't require consumers to try to remember terms they may not have read in years. And who knows if we will even be able to persuade people to take the time to answer the questions?  Anyway, just as the CFPB is soliciting comments on its survey, I would love to get helpful comments on ours.  If you want me to email you the draft survey for the purpose of commenting on it, please let me know in the comments or email me at sovernj at stjohns dot edu.  We have already begun testing the survey and may begin surveying consumers in earnest next week, so we would prefer to have any comments soon.

Wal-Mart to pay OSHA fine and improve worker safety at 2,800 of its stores

As this story in the Guardian explains, Wal-Mart has agreed in a settlement to pay the federal Occupational Safety and Health Administration a 190K fine and to improve worker safety at 2,800 of its stores. Here's an excerpt:

Walmart has agreed to improve safety conditions at more than 2,800 stores in 28 US states after inspectors discovered "repeat and serious" health and safety violations at a store in Rochester, New York. The agreement, which included a $190,000 fine, was negotiated by the Labor Department's Occupational Safety and Health Administration (OSHA), after it uncovered "unacceptable" safety hazards to employees at the Rochester store that were similar to those in Walmart locations in nine other states. The US multinational, which is the largest private employer in the world, has been cited in more than 100 OSHA reports of health and safety violations over the last five years, according to the government body's website. The company has faced a series of work stoppages, amid increased scrutiny over labor conditions of sub-contracted workers in its supply chain, both within the United States and abroad. In the Rochester case, OSHA cited Walmart for hazards including a lack of training on hazardous materials, blocked exits and unsafe trash compactor procedures, some of which were similar to those discovered at other stores in nine states between 2008 and 2010.

Read the OSHA-Wal-Mart settlement agreement and OSHA's press release.

Justice Dep't Investigating Online Payday Lenders

The Washington Post reports that the Justice Department "has issued subpoenas to banks and other companies that handle payments for an array of financial offerings, ramping up an investigation that has been under way for several months." The investigation reportedly is focusing on companies that process payments for online payday lenders. Read the full story.

"A debt-free college education"

That's the name of this opinion piece by Katrina vanden Heuvel. It piece says that, in the U.S., "[a]s of 2011, nearly half the students enrolled in four-year programs — and more than 70 percent of students in two-year programs — failed to earn their degrees within that time, with many dropping out because of the cost. They leave school far worse than they arrived: saddled with debt, but with no degree to help them land a job and pay off the debt."

vanden Heuvel then endorses a new plan for college financing in Oregon:

Last month, the Oregon legislature passed a bill that paves the way for students to attend state and community colleges without having to pay tuition or take out traditional loans. Once Gov. John Kitzhaber signs the bill — as he is expected to do — the state’s Higher Education Coordination Commission will get to work designing a “Pay It Forward, Pay It Back” financing model, similar to ones used in Australia and the United Kingdom. Under this model, students would pay nothing while in school. Instead, after graduation, alumni would pay a flat 3 percent of their income for the next two decades or so to fund the education of future students. Those who attend for less time would pay a pro-rated amount. What this means is that the state’s university system should eventually pay for itself. College economics classes have always taught that “there’s no such thing as a free lunch.” But students in Oregon may soon learn that there is such a thing as a debt-free economics class.

Whether Oregon's higher-ed system eventually "pay[s] for itself" will depend, among other things, on whether a flat 3%-of-income post-graduate payment is sufficient and whether Oregon's plan ensures that most graduates actually pay up. It's an interesting idea that's worth watching, that's for sure.

Read these pieces on credit-card/debit-card swipe fees

We have been following the litigation over swipe fees--the fees that the card companies impose on merchants each time a credit or debit card is used. Go, for instance, here and here.

A major concern is that if part of the swipe fee is the product of anti-competitive behavior or legislation or regulation enacted at the behest of the card industry to keep fees artifically high, consumers and merchants will pay the price (in billions) in higher prices and/or lost revenues.

The New York Times has just published essays by five "debaters" interested in the topic:

1 - A Blatantly Anticompetitive Practice by Lyle Beckwith of the National Association of Convenience Stores ("Merchants should have real choices in how their card transactions are processed, and they should know what it costs to swipe.")

2 - Down With the Big Swipe by Nancy Folbre of the Univ. of Massachusetts ("The European Union’s proposal to limit interchange fees provides a good model for regulatory reform in the United States.")

3 - In Europe, We Want a Level Playing Field by Neelie Kroes, VP of the European Commission ("Limiting credit card fees may also address some of the reasons why Europeans shop online much less than Americans do.")

4- Swipe Fee Caps Don't Benefit Consumers by Geoffrey Manne of Lewis & Clark Law School ("In countries that have capped interchange fees, retailers haven’t passed the savings on to consumers.")

5 - Electronic Payment Is Valuable by Alex Brill of the American Enterprise Institute ("Service providers incur costs for their services and deserve to charge a market-based rate to their customers.")

Paper on Behavioral Economics and Consent to Tracking Internet Use

Frederik J. Zuiderveen Borgesius of the Institute for Information Law (University of Amsterdam) has written Consent to Behavioural Targeting in European Law - What are the Policy Implications of Insights from Behavioural Economics?  Here is the abstract:

Behavioural targeting is the monitoring of people’s online behaviour to target advertisements to specific individuals. European law requires companies to obtain informed consent of the internet user before they use tracking technologies for behavioural targeting. Other jurisdictions also emphasise the importance of choice for internet users. But many people click ‘I agree’ to any statement that is presented to them. This paper discusses insights from behavioural economics to analyse problems with informed consent to behavioural targeting from a regulatory perspective. What are the policy implications of insights from behavioural economics in the context of behavioural targeting? Two approaches to improve regulation are explored. The first focuses on empowering the individual, for example by making informed consent more meaningful. The second approach focuses on protecting the individual. If aiming to empower people is not the right tactic to protect privacy, maybe specific prohibitions should be introduced.

"No Correlation: Continued Decrease in Medical Malpractice Payments Debunks Theory That Litigation Is to Blame for Soaring Medical Costs"

That's the name of this new report Public Citizen. Here's Public Citizen's description of the report:

A decade after reaching their peak, the quantity and cumulative value of medical malpractice payments made on behalf of doctors were at their lowest level on record in 2012, according to a new Public Citizen analyzing data from the federal government’s National Practitioner Data Bank (NPDB). The facts surrounding the prevalence of medical malpractice litigation are important for several reasons, the report contends. Medical malpractice has been singled out by many in Congress as the culprit for rising health care costs. Meanwhile, Republicans in Congress have made it a perennial priority to pass legislation what would restrict patients’ ability to seek redress in court. The facts clearly contradict contentions that malpractice litigation significantly influences health care costs. Since 2003, medical malpractice payments have fallen 28.8 percent, yet national health care costs are up 58.2 percent. Lawmakers intent on serving their constituents should focus on reducing the errors that lead to litigation, not reducing accountability for the errors.

The press release provides further highlights.

U.S. Sues BofA over Sale of Mortgage-backed Securities

The Washington Post reports today: Traders at Bank of America willfully misled investors about the quality of the residential mortgages tucked into the securities the bank sold at the start of the financial crisis, according to separate lawsuits filed Tuesday by the Justice Department and the Securities and Exchange Commission. . . . Justice claims the bank knew that more than 40 percent of the 1,191 mortgages it bundled into securities did not meet underwriting guidelines and sold them anyway. Prosecutors estimate that the total losses sustained by investors will exceed $100 million.