As rising inflation drives down real wages, making ends meet is increasingly more difficult again for adults and families across the country. Those living in New Mexico without good credit may soon face new challenges to paying bills or covering an unforeseen expense.
The New Mexico legislature is considering imposing new limits on how much interest lenders can charge to borrowers. While to some that sounds like a good idea, the unintended consequences could be fewer consumer loan options for the unbanked to access funds when they need them.
What happened?
Democratic representatives successfully advanced through committee, a bill that slashes interest rate caps that companies can charge to 36 percent and limits the loan term to one year for loans under $10,000. This bill (H.B. 132), introduced by Representative Susan Herrera, died twice before in committee but this time, passed out on a party-line vote of 3-2.
This could have devastating impacts on the consumer loan industry, leaving fewer options for consumers.
The American Financial Service Association explained in a statement:
Traditional installment loans are safe, reliable and transparent for consumers. Imposing additional restrictions on New Mexico installment lenders will not affect the demand for credit. While borrowers among New Mexico’s elite may find other sources of credit or afford larger loans, lower income individuals will likely be left in credit deserts or forced to turn to unregulated or illegal options.
Rather than eliminate what for many New Mexicans may be their only consumer credit option, policymakers should take the time to understand the needs of their constituents and to ensure they have access to safe and affordable credit options.
Even the bill sponsors tacitly admitted the likelihood for damage saying,
It’s not that we want to close down loans for everybody. We don’t, we know people desperately need these loans. We get that. We just want to lower the interest rate to 36% like other states and other leadership have done.
Consumer loans meet a market need
Many people who seek consumer loans do so because they wouldn’t qualify for loans from most banks. Perhaps they have bad credit scores or no credit history. They may even be among New Mexico’s 8.7 percent of unbanked residents. These individuals use consumer credit for many reasons, but chiefly because they do not have options that most Americans depend on.
These individuals tend to be in households that are lower-income, less-educated, younger, Black and Hispanic, and experiencing volatile incomes.
Lowering interest rate caps will push them into worse financial situations. In a recent op-ed, an Air Force veteran, who is also a small business owner, explained why this bill is not a good idea:
But the fact that underbanked individuals can look elsewhere, to fintechs or credit unions, for credit when they are experiencing cash shortfalls is a positive development in the free market that should be celebrated, not narrowly framed as “predatory.” If the goal of HB 132 is financial security for all New Mexicans, it doesn’t make a whole lot of sense to punish residents who are underbanked or have low credit scores by making it harder for them to access credit. But that’s exactly what imposing restrictions on small and community banks’ ability to work with third party loan providers would do.
Implications
Limiting interest rates is viewed as a means of combatting high-interest loans targeted at the poor and vulnerable, but they end up hurting the people lawmakers meant to help.
People in states that enacted similar rate caps experienced devastating impacts. Rate caps forced such loan lenders out of business. As a result, consumers were in greater financial risk and turned to costly alternatives that left them worse off financially. For example, in Georgia borrowers bounced more checks, dealt more with lenders and debt collectors, and were more likely to file for Chapter 7 bankruptcy. In other instances, people reverted to pawn shops, sold valuable possessions, and even borrowed from dangerous people such as loan sharks.
As my colleague Carrie Sheffield has written, Congress has also tried to extend the 36-percent rate cap for military veterans to all consumers.
It could very well push our most disadvantaged citizens to underground financial products in an unregulated, shadow economy.
New Mexico’s H.B. 132 bill will rob the financially vulnerable of access to critical funds, leaving them in a more unstable financial situation. Lawmakers should carefully consider whether this is the outcome they truly desire.