Mises Daily Articles
Suing Away Consumer Satisfaction
Anticapitalist sentiments have made a sudden resurgence following the financial crisis of 2008 and the ensuing depression we find ourselves in now. These events have also given rise to countless attempts to "solve" economic problems, always and forever in the form of government intervention.
A recent example of this can be found in Minnesota Attorney General Lori Swanson's lawsuit against three internet companies in the payday-loan industry — Eastside Lenders of Delaware, Global Payday Loan of Utah and Jelly Roll Financial of Virginia — for allegedly operating without adequate government registration and for violating the legal limit for interest rates in the state of Minnesota. Swanson stated publicly her lament that these companies are "trapping these citizens into a spiral of debt."
She added that "many people are in a tight spot financially and looking for help, but Internet payday lenders that purposefully evade state laws can make a tough financial situation even worse." The Better Business Bureau, in a consumer advisory, added, "Desperate times are leading people to the internet to apply for payday loans and many are falling deeper into debt after getting tangled up with a lender who has zero regard for the law."
Amusingly enough, Swanson, according to BusinessWeek.com, commented that she did not know how consumers might be affected by this legislation. Yet, if she did, she would not and could not support it without carrying a heavy burden on her head, knowing that she was helping to contribute to the very misery that she was supposedly attempting to fight with her lawsuit. Also troubling to her might be the fact that these law-skirting firms have helped lower/middle class citizens massively.
To see why this is the case, we must analyze two things:
- the effects on the free market of violating government regulations in the form of interest-rate limitations and registration requirements, and
- the two means through which business firms can gain customers.
The Effects of Violating Regulations
A firm can exist on the free market only by satisfying consumer desires. Consumers voluntarily give money to firms because the exchange is beneficial to them — consumers have demonstrated by preference that this action is the best possible action they could have taken in that particular situation. Therefore, when you have, in this case, a handful of payday-loan companies that ignore the state's regulations, there is a net increase of consumer satisfaction, which the existence of these firms objectively and apodictically proves.
The much-lamented "outrageous" interest rates that the firms charge, as well as the fees levied when an individual fails to pay back the money, reflect the massive risks that these firms are taking — risks that come in the form of giving more to consumers than the regulated payday lenders do. If firms were not taking substantial risks on the free market, they would be charging less to consumers who failed to pay back loans on time.
If these payday firms end up obeying the legal fiat on interest rates in an attempt to dodge the lawsuit, they will take fewer risks — and hence, offer less — to borrowers, who in this case almost always need the money to make ends meet immediately. Since they will be lending less, more people in the lower and middle class will be hurt because they were borrowing from payday-loan firms for such things as paying rent, buying groceries, feeding their children, etc. We will probably never hear about the poor who couldn't pay the monthly rent or feed their starving children for days because they could not secure a loan. This is a perfect example of the "unseen" effects of government intervention in the economy, which Frederic Bastiat and Henry Hazlitt so brilliantly demonstrated.
Swanson claims that the firms are trapping citizens in debt. Yet, the firms haven't gone completely bankrupt; this objectively and apodictically demonstrates that more consumers have been helped by the existence of the firms. If all or most of the people who borrowed money from the firms could not pay it back, the firm could not stay in business no matter how large a penalty fine it might charge.
The reality is that a certain number of the borrowers ended up making, in retrospect, misguided speculations in regards to their ability to pay back the loan. It is possible that many of them borrowed the money with obvious knowledge that the risk of defaulting might be enormous. Why is this fact supposed to be the fault of the loan companies? The loan companies never forced anyone to borrow money from them.
The Two Means of Gaining Customers
Firms can use one of two means to secure market share: they can use (to utilize Franz Oppenheimer's terminology) the economic means, whereupon they gain market share and the consumer's dollar vote by catering in the most expedient and efficient way to the most urgent desires of the consumers, or the political means, whereupon they call on the state to regulate commerce in such a way as to give them an ability to reap a monopoly profits at the distinct disadvantage of consumers. In fact, this is precisely what other firms who obey the interest-rate limit and registration laws obtain, because they gain a monopoly profit for the price of obeying a state regulation (much in the same way as today's health-insurance companies are by and large embracing healthcare reform because while they will, by and large, have to take greater risks in the form of consumers with preexisting conditions, they will also have an objectively captive consumer base thanks to the insurance mandates).
The firms that dodge the interest-rate/registration laws draw money and monopoly gains away from the firms that obey the state's fiat. These latter firms are the real culprits of corruption.
The final point to make in regards to this is that the existence of interest-rate limits and registration laws makes the pursuit of business in the payday-loan industry less appealing because it is less profitable for businessmen. Those who are so distraught by the existence of "usurious" interest rates and "exorbitant" fines should be the first ones calling for elimination of the interest-rate/fine regulations.
This elimination would then make the business more appealing from an entrepreneurial perspective, drawing more firms into the business and thus lowering the interest rates and fine levels. Firms would become more competitive, and the increase in the number of payday-loan firms would decrease the net marginal utility to consumers that each payday loan firm could give them. From this analysis we can deduce that the only solution, in terms of legal reform, to solve this problem is the total elimination of regulation of any kind in this industry.
Risk is inherent in every single move on the marketplace. As Mises wrote in Human Action, "There is no such thing as a nonspeculative investment.… In a changing economy action always involves speculation. Investments may be good or bad, but they are always speculative."
In the case of the defaults on the loans borrowed from the payday-loan companies, their speculation was misguided, but it was prompted by a choice that was objectively the best choice that could have been made at that point in time. Mistaken speculation of the borrower cannot be blamed on the lender, any more than mistaken speculation on the part of — for example — a big-business corporate borrower on Wall Street could be blamed on the big-business corporate lender. The inherent risk of the marketplace does not establish the marketplace as something that needs to be regulated and harnessed. On the contrary, inherent risk defines the market.