Vix Pervenit

The Archbishop of Canterbury, Justin Welby’s attack on the payday loan company Wonga is a modern manifestation of an ancient theological prohibition. Just as Jesus threw the moneylenders out of the Temple, and medieval popes banned their flock from charging interest, today’s Church is waging its own battle against the sin of usury. Welby’s threat to “compete Wonga out of business” is an empty one; the credit unions he champions face financial, legal and moral constraints which will prevent them beating payday loan companies at their own game. Credit unions lack capital, the interest they can charge is capped, and speedy, high-risk lending is alien to their communal sensibilities. It is politicians, flushed with moral outrage and keen to regulate the industry, that Wonga will be wary of. A modern usury law, handed down by the UK's own pecuniary pontiff, the Financial Conduct Authority, cannot be far off.

The arguments for and against payday loans are simple. Payday loan companies argue that they are providing credit to borrowers who are ill-served by banks and other traditional sources of finance. Many of their customers have been refused credit elsewhere, or need money faster than banks will provide it. As financial pressure on households increases and cheaper alternatives such as the government’s Social Fund dry up, payday loan companies are filling a gap in the market. The high interest rates – Wonga’s representative APR is 5853% - are simply a reflection of the default risk of their customers. Although the default rate on Wonga’s loans is just 7%, in 2011, bad loans accounted for 42% of the company’s revenue. In any case, the cost of a payday loan compares favourably, for example, to the cost of missing a utility bill and paying for reconnection, or indeed to illegal forms of lending, where the loan might be secured against the borrower’s kneecaps. On this view, payday loans are not just a necessary evil, but a valuable service – the claim of moneylenders throughout the ages.

The core of the Church’s moral argument has hardly changed either: payday loan companies, like their usurious predecessors, profit by exploiting the desperation of the poor. Wonga is certainly making bumper profits: in 2011, the company made £46m profit on revenue of £185m. This moral claim is compounded by a critique of various sharp lending practices. Payday loan companies make the most profit when borrowers take out a series of payday loans, or extend their “short-term” loan for a longer period. The rapid growth of interest means borrowers are often forced to use loans to pay off existing loans, paying more and more until the debt spirals out of control. In the UK, payday loan customers take out an average of 3.5 loans a year, a figure companies are keen to increase. Little effort is made to ensure that borrowers can afford the repayments on their loans; only a third of those surveyed by the Citizens’ Advice Bureau were asked questions to determine whether they could afford the loan. These practices recall the worst features of the sub-prime mortgage market before the financial crisis. Little wonder, then, that when the Office of Fair Trading asked the 50 biggest payday loan companies to prove that they were lending responsibly, 15 decided to shut up shop instead of responding.

In Parliament, the Labour MP Stella Creasy is the most prominent campaigner against Wonga and other “legal loan sharks”. Earlier this year, pressure from critics, both temporal and spiritual, forced the government to give the Financial Conduct Authority the power to set the maximum rate of interest lenders can charge. Now Creasy wants the FCA to use it. Usury laws are common throughout Europe and the United States, where payday loans originated. In Illinois, for example, the maximum interest rate on personal loans in 9%. Several US states have banned payday loans altogether, or restricted the rate of interest so that this type of lending is unprofitable. But bans have not produced the results moral campaigners wanted: in states which banned payday lending, there were more bounced cheques, more complaints about debt collectors, and more bankruptcies. Though there may be a case both for restricting the number of loans individual borrowers take out, and requiring more stringent checks that borrowers can afford repayments, an interest rate cap that amounts to a ban would be misguided.

Even if it may be impractical to ban payday loans, the moral accusation of usury lingers. Keynes, in a letter to the head of the Inland Revenue, put it like this:

The correct measure of interest is the loss actual or potential to the lender, and not the gain to the borrower. In other words, it is usury to extract from the borrower some amount additional to the true sacrifice of the lender which the weakness of the borrower’s bargaining position or his extremity of need happens to make a feasible proposition.

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The large proportion of Wonga’s revenue which has to be written off means that some level of interest is clearly justified, as there is a real risk of losing their capital. As payday loan companies become better at working out who will pay up and who will not, this risk will diminish, but their interest rates are unlikely to fall to the same extent. But, following Keynes, who is really the usurer? Payday loan companies are the obvious candidate. Usury might be just as good a description of the lending activities of traditional banks. They charge lower interest, but in relation to the risks they run they might well be making inflated profits on their loans, given that the taxpayer underwrites their losses. A usury law aimed only at Wonga and its ilk might leave the main source of usury unchecked.

Robert Skidelsky and Peter Mills;
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