Experience with Reductions in the Small-Loan Rate in Wisconsin

Abstract

r 9H E maximum rate of charge which the state permits licensed . personal finance companies to charge is often criticized as excessive. Lenders engaged in the business defend these rates on the ground that the high costs of extending small loans necessitate legal rates which are sufficiently high to induce capital to enter into the industry and engage in business under the licensing and regulation of the state. The lenders contend that if the maximum rate of charge is not high enough to permit profitable investment of capital, the business will disappear entirely, thus cutting off these credit facilities from the low-income groups which normally make up the market for personal finance loans,3 or it will be conducted illegally at still higher rates of charge by persons who are willing to risk criminal prosecution for violating the usury statutes.4 Since its inception the industry has been subjected to a great deal of pressure to reduce the maximum rates of charge permitted by the usury statutes or other regulatory legislation. In part, the pressure for rate reduction emanates from well-meaning people who are unfortunately suffering from a cultural lag. Accepting the widespread notion that any charge in excess of 6 per cent per annum is usurious, they consider a rate of 3 per cent per month on unpaid balances or 36 per cent per annum on the average outstanding balance as an immoral exaction. Actually, these companies operate under a statute specifically exempting them from the usury law and maximum rates charged are established by law.A The personal finance companies are credit agencies having relatively high costs of lending, and it is unlikely that they could operate under the ordinary usury statutes. Where small-loan laws do not exist, this type of credit-small loans to low-income borrowers-is either not available or available only from loan sharks.6 Another source of pressure for rate reductions comes from the illegal lenders. Their business is seriously limited by the competition of personal finance companies, and, in order to remove this competition, they exert pressure to lower the maximum rate of charge permitted to personal finance companies to a point where these lenders can no longer continue in business at a profit. Once the personal finance companies are driven I The author is indebted to Dr. Ralph A. Young, director, Financial Research Project, National Bureau of Economic Research, for his painstaking criticism of and contributions to the content of this article. However, all opinions expressed are solely those of the author.