SUSTAINABILITY NOTEBOOK: Maybe Payday Loans Don't Hurt the Poor

by Stephen Kiesling

While it is easy to believe that loans carrying annual interest rates of 200 percent should be illegal to prevent the poor from being victimized by greedy lenders, that belief may simply be wrong. Dale Karlan, a Yale economist and codirector of the Financial Access Initiative, recently studied a South African lender that provides loans to the very poor. As reported in the Economist, the lender decided its criteria for loans was too strict and randomly provided loans to 325 out of 787 applicants who had previously been rejected. The four-month loan for 1,000 rand carried an annual interest rate of about 200 percent.

At the end of the four months, the bank made a profit of 201 rand per loan, a return comparable to their other loans. More important, the people who received the loans seemed to prosper, as compared to those who didn’t. Six to 12 months later, those who received loans were less likely to go hungry, and their chances of being in poverty fell 19 percent. They were also more likely to have kept their jobs.

Those who got the loans reported more stress but also more control over their lives. And over a period of 15 to 27 months, those who got the loans were more likely to have established a credit rating, and their credit scores were not harmed by the high-interest loans.

Previous work has shown that child labor may be a child’s only hope of escaping poverty. In our desire to protect the poor, we must be careful not take away the only ladders they have.