Why Doesn't Someone Undercut Payday Lending?

To contact us Click HERE
A payday loan works like this: The borrower received an amount that is typically between $100 and $500. The borrower writes a post-dated check to the lender, and the lender agrees not to cash the check for, say, two weeks. No collateral is required: the borrower often needs to show an ID, a recent pay stub, and maybe a statement showing that they have a bank account. The lender charges a fee of about $15 for every $100 borrowed. Paying $15 for a two-week loan of $100 works out to an astronomical annual rate of about 390% per year. But because the payment is a "fee," not an "interest rate," it does not fall afoul of state usury laws. A number of state have passed legislation to limit payday loans, either by capping the maximum amount, capping the interest rate, or banning them outright.

But for those who think like economists, complaints about price-gouging or unfairness in the payday lending market raise an obvious question: If payday lenders are making huge profits, then shouldn't we see entry into that  market from credit unions and banks, which would drive down the prices of such loans for everyone? Victor Stango offers some argument and evidence on this point in "Are Payday Lending Markets Competitive," which appears in the Fall 2012 issue of Regulation magazine.
Stango writes:

"The most direct evidence is the most telling in this case: very few credit unions currently offer payday loans. Fewer than 6 percent of credit unions offered payday loans as of 2009, and credit unions probably comprise less than 2 percent of the national payday loan market. This “market test” shows that credit unions find entering the payday loan market unattractive. With few regulatory obstacles to offering payday loans, it seems that credit unions cannot compete with a substantively similar product at lower prices.

"Those few credit unions that do offer a payday advance product often have total fee and interest charges that are quite close to (or even higher than) standard payday loan fees. Credit union payday loans also have tighter credit requirements, which generate much  lower default rates by rationing riskier borrowers out of the market. The upshot is that risk-adjusted prices on credit union payday loans might be no lower than those on standard payday loans."

The question of whether payday lending should be restricted can make a useful topic for discussions or even short papers in an economics class. The industry is far more prevalent than many people recognize. As Stango describes:

"The scale of a payday outlet can be quite small and startup costs are minimal compared to those of a bank. ... They can locate nearly anywhere and have longer business hours than banks. ... There are currently more than 24,000 physical payday outlets; by comparison there are roughly 16,000 banks and credit unions in total (with roughly 90,000 branches). Many more lenders offer payday loans online. Estimates of market penetration vary, but industry reports suggest that 5–10 percent of the adult population in the United States has used a payday loan at least once."

Payday lending fees do look uncomfortably high, but those with low incomes are often facing hard choices. Overdrawing a bank account often has high fees, as does exceeding a credit card limit. Having your electricity or water turned off for non-payment often leads to high fees, and not getting your car repaired for a couple of weeks can cost you your job.

Moreover, such loans are risky to make. Stango cites data that credit unions steer away from making payday loans because of their riskiness, and instead offer only only much safer loans that have lower costs to the borrower, but also have many more restrictions, like credit checks, or a longer application period, or a requirement that some of the "loan" be immediately placed into a savings account. Credit unions may also charge an "annual" fee for such a loan--but for someone taking out a short-term loan only once or twice in a year, whether the fee is labelled as "annual" or not doesn't affect what they pay. Indeed, Stango cites a July 2009 report from the National Consumer Law Center that criticized credit unions for offering "false payday loan `alternatives'" that actually cost about as much as a typical payday loan.

Stango also cites evidence form his own small survey of payday loan borrowers in Sacramento, California, that many of them prefer the higher fees and looser restrictions on payday loans to the lower fees and tighter restrictions common on similar loans from credit unions. Those interested in a bit more background might begin with my post from July 2011, "Could Restrictions on Payday Lending Hurt Consumers?" and the links included there.

The BP Spill: What's the Monetary Cost of Environmental Damage?

To contact us Click HERE
 In April 2010, the BP Deepwater Horizon oil drilling rig suffered an explosion followed by an enormous oil spill. Here, I'll first lay out the question of much BP is likely to end up paying as a result of the spill, a number which is gradually being clarified by the passage of time and evolution of lawsuits. But beyond the question of what is going to happen, economists face a controversy about how best to place a dollar value on these kinds of environmental damages--and the most recent issue of my own Journal of Economic Perspectives has a three-paper symposium on the "contingent valuation" method.
A couple of weeks ago, Attorney General Eric Holder announced at a press conference in New Orleans: "BP has agreed to plead guilty to all 14 criminal charges – admitting responsibility for the deaths of 11 people and the events that led to an unprecedented environmental catastrophe.  The company also has agreed to pay $4 billion in fines and penalties. This marks both the single largest criminal fine – more than $1.25 billion – and the single largest total criminal resolution – $4 billion – in the history of the United States."
But as Nathan Richardson of Resources for the Future points out, the criminal penalty is a small slice of what BP will end up paying: "But remember that this criminal settlement is only a small part of BP’s liability. Earlier this year, BP reached a preliminary $7.8b class settlement with a large number of private plaintiffs (fishermen, property owners, etc.) harmed by the spill. That agreement is currently under review by a federal district court judge. This is in addition to $8b in payments made to private parties who agreed not to litigate (from BP’s oil spill “fund”). Future payments to private parties are likely as claims on the fund are resolved or as those who were not part of the class settlement pursue separate claims. BP also claims to have paid out $14b in cleanup costs.
But that’s not all. BP still must face civil suit from the federal government (and states) over natural resources damages. ... BP also faces civil penalties under the Clean Water Act, which would quadruple from $5.5b to $21b if gross negligence is found. In other words, BP will pay out the largest criminal settlement in U.S. history and it will be only a small share of its total liability."

I don't have anything new to say about the parade of events leading up to the spill, nor about the halting efforts to stop the flow and start a clean-up. For details on what happened, a useful starting point is the report from the National Commission on the BP Deepwater Horizon  Oil Spill and Offshore Drilling  that was released in January 2011. From the Foreword of that report: "The explosion that tore through the Deepwater Horizon drilling rig last April 20 [2010], as the rig’s
crew completed drilling the exploratory Macondo well deep under the waters of the Gulf of
Mexico, began a human, economic, and environmental disaster. Eleven crew members died, and others were seriously injured, as fire engulfed and ultimately destroyed the rig. And, although the nation would not know the full scope of the disaster for weeks, the first of more than four million barrels of oil began gushing uncontrolled into the Gulf—threatening livelihoods, precious habitats, and even a unique way of life. ... There are recurring themes of missed warning signals, failure to share information, and a general lack of appreciation for the risks involved.... But that complacency affected government as well as industry. The Commission has documented the weaknesses and the inadequacies of the federal regulation and oversight, and made important recommendations for changes in legal authority, regulations, investments in expertise, and management."

In editing the Fall 2012 issue of my own Journal of Economic Perspectives, I found myself focused on a narrower issue: How does one put a meaningful economic number on widespread environmental damage. The issue has three papers focused on a method called "contingent valuation," which involves using survey results to estimate damages. Catherine L. Kling, Daniel J. Phaneuf and Jinhua Zhao offer an overview of the disputes and issues surrounding this method. Then, Richard Carson makes the case that contingent valuation methods have developed sufficiently to be an accurate  estimating technique, while Jerry Hausman offers a skeptical view that contingent valuation surveys are so fundamentally flawed that their results should be completely disregarded. As usual, all JEP articles from the most recent back to the first issue in 1987 are freely available on-line, compliments of the American Economic Association.

From an economic perspective, the fundamental difficulty here is that not all the environmental damages affect economic output. A major oil spill, for example, affects production directly in industries like fishing and tourism and other industries directly, but it also affects birds and fish and beaches in ways that don't show up as a drop in economic output. In the economics literature, these losses are sometimes know as "passive use value." The notion is that even if I never visit the Gulf Coast around Louisiana and Mississippi, nor eat fish caught there, my utility can be affected by the environmental destruction that occurred. Thus, the argument goes that economic theory should take this "passive use" into account--roughly, the value that people place on the environmental damage that occurred--in thinking about lawsuits and policy choices.

The immediate objections to contingent value methods of setting such values are obvious: If people are just asked to place a value on environment damage, isn't it plausible that their answers will be untethered by reality? Richard Carson, a strong advocate of these methods, faces such skepticism head-on. He writes: "Economists are naturally skeptical of data generated from responses to survey questions—and they should be! Many surveys, including contingent valuation surveys, are inadequate." He also argues, "The best contingent valuation surveys are among the best survey instruments currently being administered while the worst are among the worst."

Carson emphasizes that a high-quality contingent valuation survey takes considerable care to provide what can be several dozen pages of focus-group-tested information to consider, and emphasizes to the responders that the results of the survey are likely to help guide policy outcomes. In such a setting, he argues that people have the information and incentives to answer truthfully. Hausman responds that such surveys are plagued by difficulties: for example, the "hypothetical bias" that people tend to overstate their value when they aren't actually paying; or that valuations can vary according to how questions are phrases, like whether the question asks about willingness-to-pay to avoid environmental damage or willingness-to-accept that the same amount of environmental damage will be done; or that when people value, say, three projects separately or the combination of those three projects, their answers often don't add up. Carson discusses how those who carry out such surveys seek to deal with these issues and others. Hausman says that legislatures, regulatory agencies, and courts, relying on expert opinion, are by far a preferable way to take passive use value into account. Kling, Phaneuf and Zhao point out that over 7,000 of these contingent valuation studies have been done in the last two decades, provide a background and framework for thinking about all of these issues. Of course, those who want all the ins and outs and gory details are encouraged to check out the articles themselves. 



To my knowledge, no contingent valuation surveys of the costs of the BP oil spill have yet been published. But it is interesting that after the Exxon Valdez spill, the eventual settlement roughly matched the estimates of the contingent valuation study. As Richard Carson notes: "Soon after the Exxon Valdez spill in March 1989, the state of Alaska funded a contingent valuation study, contained in Carson, Mitchell, Hanemann, Kopp, Presser, and Ruud (1992), which estimated the American public’s willingness to pay to avoid an oil spill similar to the Exxon Valdez at about $3 billion. The results of the study were shared with Exxon and a settlement for approximately $3 billion was reached, thus avoiding a long court case." As contingent valuation studies of the BP spill are published, it will be interesting to compare them with the amounts that BP is paying in the aftermath of the Deepwater Horizon spill.

Annual Report from the Conversable Economist: 2012

To contact us Click HERE
At the beginning of each year, it seems useful to reflect on what I'm doing with this blog. Last year's report is here.

For me, there are two main reasons for sustaining the Conversable Economist blog: one personal, one social. The personal reason is that writing these posts helps organize and motivate my own reading and thinking. It encourages me to spend a little extra time tracking down a report or reading through a working paper. When I need to track down a figure or a table or a quotation that I just know I saw someplace, I use the "search" command on the blog to find it. Thus, the blog extends the capacity of my own memory and improves my ability to access past information.

My social motivations for the blog seem less obvious to at least some readers, who occasionally send me notes suggesting more opinions of my own and more day-to-day commentary on the opinions of others. As I see it, the world and the web are overflowing with opinions, and pure opinion is a devalued currency. Instead, my approach is every post should give you some facts or background or analysis that you might not otherwise have seen. I am ever-mindful of the advice from the classic work on expository prose, The Elements of Style, by William Strunk and E.B. White (Third  Edition, 1979, Section V, Rule 17):

"Unless there is a good reason for its being there, do not inject opinion into a piece of writing.  We all have opinions about almost everything, and the temptation to toss them in is great. To air one’s views gratuitously,  however, is to imply that the demand for them is brisk, which may not be the case, and which, in any event, may not be relevant to the discussion. Opinions scattered indiscriminately about leave the mark of egotism on a work."

I am fully aware that expressing concern about "the mark of egotism" while writing for social media in the 21st century marks me as a person out of step with my time.

But of course, I'm making no particular effort to hide my opinions, either. They are manifest in my choices about what to read, what topics to blog about, what figures or tables to reproduce, and in comments I often include in the posts. I'm just not expressing my opinions in the sweeping generalizations and  "you're an idiot" vernacular of the web.  As I explain on my FAQs page, the "Conversable Economist" name for this blog is drawn from an essay by David Hume, who lamented the "separation of the learned from the conversable world." Hume wrote: “I cannot but consider myself as a kind of resident or ambassador from the dominions of learning to those of conversation, and shall think it my constant duty to promote a good correspondence betwixt these two states, which have so great a dependence on each other.”

When I think about the style of exposition appropriate to acting as an ambassador from academic economics to the conversable world, I'm reminded of a comment from another classic work on expository prose, H. W. Fowler's  A Dictionary of Modern English Usage (1926). (And yes, when you work as an editor, you have a shelf full of such books.) Under the heading on “French Words,” Fowler offers advice about how to use specialized knowledge or vocabulary with readers who aren't necessarily familiar with the terms. Although he is writing about the use of French terms in English composition, the lesson applies to the use of economics terms in English composition, too.  Fowler wrote:

"Display of superior knowledge is as great a vulgarity as display of superior wealth — greater, indeed, inasmuch as knowledge should tend more definitely than wealth towards discretion & good manners. ... To use French words that your reader or hearer does not know or does not fully understand, to pronounce them as if you were one of the select few to whom French is second nature when he is not one of those few (& it is ten thousand to one that neither you nor he will be so), is inconsiderate & rude."

And yes, I am fully aware that expressing concerns about how excessive use of terminology is a "vulgarity," about how "knowledge should tend more definitely than wealth towards discretion & good manners" and about a distaste for being "inconsiderate & rude," while at the same time writing for social media in the 21st century, marks me yet again as a person out of step with my time.


Because one of my purposes in continuing this blog is social, I do care about readership. During the last few months of 2012, about 1000 people were signed up to receive each blog post by RSS or email. In addition, the blog is receiving an average of about 2500 pageviews per day. Pageviews are somewhat seasonal--for example, they dropped off in July and August when much of academia is on summer break--but overall the number has been rising through 2012. In November, my desire to find ways to connect to more readers overcame my innate aversion to Twitter, so now it is possible to receive a tweet each time I put up another post at the blog.

If you are someone who enjoys the blog, I encourage you to check in regularly, sign up, and recommend it to others. As always, I'm glad to hear from readers of the blog with either general or specific feedback, at conversableeconomist@gmail.com.

Why Doesn't Someone Undercut Payday Lending?

To contact us Click HERE
A payday loan works like this: The borrower received an amount that is typically between $100 and $500. The borrower writes a post-dated check to the lender, and the lender agrees not to cash the check for, say, two weeks. No collateral is required: the borrower often needs to show an ID, a recent pay stub, and maybe a statement showing that they have a bank account. The lender charges a fee of about $15 for every $100 borrowed. Paying $15 for a two-week loan of $100 works out to an astronomical annual rate of about 390% per year. But because the payment is a "fee," not an "interest rate," it does not fall afoul of state usury laws. A number of state have passed legislation to limit payday loans, either by capping the maximum amount, capping the interest rate, or banning them outright.

But for those who think like economists, complaints about price-gouging or unfairness in the payday lending market raise an obvious question: If payday lenders are making huge profits, then shouldn't we see entry into that  market from credit unions and banks, which would drive down the prices of such loans for everyone? Victor Stango offers some argument and evidence on this point in "Are Payday Lending Markets Competitive," which appears in the Fall 2012 issue of Regulation magazine.
Stango writes:

"The most direct evidence is the most telling in this case: very few credit unions currently offer payday loans. Fewer than 6 percent of credit unions offered payday loans as of 2009, and credit unions probably comprise less than 2 percent of the national payday loan market. This “market test” shows that credit unions find entering the payday loan market unattractive. With few regulatory obstacles to offering payday loans, it seems that credit unions cannot compete with a substantively similar product at lower prices.

"Those few credit unions that do offer a payday advance product often have total fee and interest charges that are quite close to (or even higher than) standard payday loan fees. Credit union payday loans also have tighter credit requirements, which generate much  lower default rates by rationing riskier borrowers out of the market. The upshot is that risk-adjusted prices on credit union payday loans might be no lower than those on standard payday loans."

The question of whether payday lending should be restricted can make a useful topic for discussions or even short papers in an economics class. The industry is far more prevalent than many people recognize. As Stango describes:

"The scale of a payday outlet can be quite small and startup costs are minimal compared to those of a bank. ... They can locate nearly anywhere and have longer business hours than banks. ... There are currently more than 24,000 physical payday outlets; by comparison there are roughly 16,000 banks and credit unions in total (with roughly 90,000 branches). Many more lenders offer payday loans online. Estimates of market penetration vary, but industry reports suggest that 5–10 percent of the adult population in the United States has used a payday loan at least once."

Payday lending fees do look uncomfortably high, but those with low incomes are often facing hard choices. Overdrawing a bank account often has high fees, as does exceeding a credit card limit. Having your electricity or water turned off for non-payment often leads to high fees, and not getting your car repaired for a couple of weeks can cost you your job.

Moreover, such loans are risky to make. Stango cites data that credit unions steer away from making payday loans because of their riskiness, and instead offer only only much safer loans that have lower costs to the borrower, but also have many more restrictions, like credit checks, or a longer application period, or a requirement that some of the "loan" be immediately placed into a savings account. Credit unions may also charge an "annual" fee for such a loan--but for someone taking out a short-term loan only once or twice in a year, whether the fee is labelled as "annual" or not doesn't affect what they pay. Indeed, Stango cites a July 2009 report from the National Consumer Law Center that criticized credit unions for offering "false payday loan `alternatives'" that actually cost about as much as a typical payday loan.

Stango also cites evidence form his own small survey of payday loan borrowers in Sacramento, California, that many of them prefer the higher fees and looser restrictions on payday loans to the lower fees and tighter restrictions common on similar loans from credit unions. Those interested in a bit more background might begin with my post from July 2011, "Could Restrictions on Payday Lending Hurt Consumers?" and the links included there.

The BP Spill: What's the Monetary Cost of Environmental Damage?

To contact us Click HERE
 In April 2010, the BP Deepwater Horizon oil drilling rig suffered an explosion followed by an enormous oil spill. Here, I'll first lay out the question of much BP is likely to end up paying as a result of the spill, a number which is gradually being clarified by the passage of time and evolution of lawsuits. But beyond the question of what is going to happen, economists face a controversy about how best to place a dollar value on these kinds of environmental damages--and the most recent issue of my own Journal of Economic Perspectives has a three-paper symposium on the "contingent valuation" method.
A couple of weeks ago, Attorney General Eric Holder announced at a press conference in New Orleans: "BP has agreed to plead guilty to all 14 criminal charges – admitting responsibility for the deaths of 11 people and the events that led to an unprecedented environmental catastrophe.  The company also has agreed to pay $4 billion in fines and penalties. This marks both the single largest criminal fine – more than $1.25 billion – and the single largest total criminal resolution – $4 billion – in the history of the United States."
But as Nathan Richardson of Resources for the Future points out, the criminal penalty is a small slice of what BP will end up paying: "But remember that this criminal settlement is only a small part of BP’s liability. Earlier this year, BP reached a preliminary $7.8b class settlement with a large number of private plaintiffs (fishermen, property owners, etc.) harmed by the spill. That agreement is currently under review by a federal district court judge. This is in addition to $8b in payments made to private parties who agreed not to litigate (from BP’s oil spill “fund”). Future payments to private parties are likely as claims on the fund are resolved or as those who were not part of the class settlement pursue separate claims. BP also claims to have paid out $14b in cleanup costs.
But that’s not all. BP still must face civil suit from the federal government (and states) over natural resources damages. ... BP also faces civil penalties under the Clean Water Act, which would quadruple from $5.5b to $21b if gross negligence is found. In other words, BP will pay out the largest criminal settlement in U.S. history and it will be only a small share of its total liability."

I don't have anything new to say about the parade of events leading up to the spill, nor about the halting efforts to stop the flow and start a clean-up. For details on what happened, a useful starting point is the report from the National Commission on the BP Deepwater Horizon  Oil Spill and Offshore Drilling  that was released in January 2011. From the Foreword of that report: "The explosion that tore through the Deepwater Horizon drilling rig last April 20 [2010], as the rig’s
crew completed drilling the exploratory Macondo well deep under the waters of the Gulf of
Mexico, began a human, economic, and environmental disaster. Eleven crew members died, and others were seriously injured, as fire engulfed and ultimately destroyed the rig. And, although the nation would not know the full scope of the disaster for weeks, the first of more than four million barrels of oil began gushing uncontrolled into the Gulf—threatening livelihoods, precious habitats, and even a unique way of life. ... There are recurring themes of missed warning signals, failure to share information, and a general lack of appreciation for the risks involved.... But that complacency affected government as well as industry. The Commission has documented the weaknesses and the inadequacies of the federal regulation and oversight, and made important recommendations for changes in legal authority, regulations, investments in expertise, and management."

In editing the Fall 2012 issue of my own Journal of Economic Perspectives, I found myself focused on a narrower issue: How does one put a meaningful economic number on widespread environmental damage. The issue has three papers focused on a method called "contingent valuation," which involves using survey results to estimate damages. Catherine L. Kling, Daniel J. Phaneuf and Jinhua Zhao offer an overview of the disputes and issues surrounding this method. Then, Richard Carson makes the case that contingent valuation methods have developed sufficiently to be an accurate  estimating technique, while Jerry Hausman offers a skeptical view that contingent valuation surveys are so fundamentally flawed that their results should be completely disregarded. As usual, all JEP articles from the most recent back to the first issue in 1987 are freely available on-line, compliments of the American Economic Association.

From an economic perspective, the fundamental difficulty here is that not all the environmental damages affect economic output. A major oil spill, for example, affects production directly in industries like fishing and tourism and other industries directly, but it also affects birds and fish and beaches in ways that don't show up as a drop in economic output. In the economics literature, these losses are sometimes know as "passive use value." The notion is that even if I never visit the Gulf Coast around Louisiana and Mississippi, nor eat fish caught there, my utility can be affected by the environmental destruction that occurred. Thus, the argument goes that economic theory should take this "passive use" into account--roughly, the value that people place on the environmental damage that occurred--in thinking about lawsuits and policy choices.

The immediate objections to contingent value methods of setting such values are obvious: If people are just asked to place a value on environment damage, isn't it plausible that their answers will be untethered by reality? Richard Carson, a strong advocate of these methods, faces such skepticism head-on. He writes: "Economists are naturally skeptical of data generated from responses to survey questions—and they should be! Many surveys, including contingent valuation surveys, are inadequate." He also argues, "The best contingent valuation surveys are among the best survey instruments currently being administered while the worst are among the worst."

Carson emphasizes that a high-quality contingent valuation survey takes considerable care to provide what can be several dozen pages of focus-group-tested information to consider, and emphasizes to the responders that the results of the survey are likely to help guide policy outcomes. In such a setting, he argues that people have the information and incentives to answer truthfully. Hausman responds that such surveys are plagued by difficulties: for example, the "hypothetical bias" that people tend to overstate their value when they aren't actually paying; or that valuations can vary according to how questions are phrases, like whether the question asks about willingness-to-pay to avoid environmental damage or willingness-to-accept that the same amount of environmental damage will be done; or that when people value, say, three projects separately or the combination of those three projects, their answers often don't add up. Carson discusses how those who carry out such surveys seek to deal with these issues and others. Hausman says that legislatures, regulatory agencies, and courts, relying on expert opinion, are by far a preferable way to take passive use value into account. Kling, Phaneuf and Zhao point out that over 7,000 of these contingent valuation studies have been done in the last two decades, provide a background and framework for thinking about all of these issues. Of course, those who want all the ins and outs and gory details are encouraged to check out the articles themselves. 



To my knowledge, no contingent valuation surveys of the costs of the BP oil spill have yet been published. But it is interesting that after the Exxon Valdez spill, the eventual settlement roughly matched the estimates of the contingent valuation study. As Richard Carson notes: "Soon after the Exxon Valdez spill in March 1989, the state of Alaska funded a contingent valuation study, contained in Carson, Mitchell, Hanemann, Kopp, Presser, and Ruud (1992), which estimated the American public’s willingness to pay to avoid an oil spill similar to the Exxon Valdez at about $3 billion. The results of the study were shared with Exxon and a settlement for approximately $3 billion was reached, thus avoiding a long court case." As contingent valuation studies of the BP spill are published, it will be interesting to compare them with the amounts that BP is paying in the aftermath of the Deepwater Horizon spill.

Why Doesn't Someone Undercut Payday Lending?

To contact us Click HERE
A payday loan works like this: The borrower received an amount that is typically between $100 and $500. The borrower writes a post-dated check to the lender, and the lender agrees not to cash the check for, say, two weeks. No collateral is required: the borrower often needs to show an ID, a recent pay stub, and maybe a statement showing that they have a bank account. The lender charges a fee of about $15 for every $100 borrowed. Paying $15 for a two-week loan of $100 works out to an astronomical annual rate of about 390% per year. But because the payment is a "fee," not an "interest rate," it does not fall afoul of state usury laws. A number of state have passed legislation to limit payday loans, either by capping the maximum amount, capping the interest rate, or banning them outright.

But for those who think like economists, complaints about price-gouging or unfairness in the payday lending market raise an obvious question: If payday lenders are making huge profits, then shouldn't we see entry into that  market from credit unions and banks, which would drive down the prices of such loans for everyone? Victor Stango offers some argument and evidence on this point in "Are Payday Lending Markets Competitive," which appears in the Fall 2012 issue of Regulation magazine.
Stango writes:

"The most direct evidence is the most telling in this case: very few credit unions currently offer payday loans. Fewer than 6 percent of credit unions offered payday loans as of 2009, and credit unions probably comprise less than 2 percent of the national payday loan market. This “market test” shows that credit unions find entering the payday loan market unattractive. With few regulatory obstacles to offering payday loans, it seems that credit unions cannot compete with a substantively similar product at lower prices.

"Those few credit unions that do offer a payday advance product often have total fee and interest charges that are quite close to (or even higher than) standard payday loan fees. Credit union payday loans also have tighter credit requirements, which generate much  lower default rates by rationing riskier borrowers out of the market. The upshot is that risk-adjusted prices on credit union payday loans might be no lower than those on standard payday loans."

The question of whether payday lending should be restricted can make a useful topic for discussions or even short papers in an economics class. The industry is far more prevalent than many people recognize. As Stango describes:

"The scale of a payday outlet can be quite small and startup costs are minimal compared to those of a bank. ... They can locate nearly anywhere and have longer business hours than banks. ... There are currently more than 24,000 physical payday outlets; by comparison there are roughly 16,000 banks and credit unions in total (with roughly 90,000 branches). Many more lenders offer payday loans online. Estimates of market penetration vary, but industry reports suggest that 5–10 percent of the adult population in the United States has used a payday loan at least once."

Payday lending fees do look uncomfortably high, but those with low incomes are often facing hard choices. Overdrawing a bank account often has high fees, as does exceeding a credit card limit. Having your electricity or water turned off for non-payment often leads to high fees, and not getting your car repaired for a couple of weeks can cost you your job.

Moreover, such loans are risky to make. Stango cites data that credit unions steer away from making payday loans because of their riskiness, and instead offer only only much safer loans that have lower costs to the borrower, but also have many more restrictions, like credit checks, or a longer application period, or a requirement that some of the "loan" be immediately placed into a savings account. Credit unions may also charge an "annual" fee for such a loan--but for someone taking out a short-term loan only once or twice in a year, whether the fee is labelled as "annual" or not doesn't affect what they pay. Indeed, Stango cites a July 2009 report from the National Consumer Law Center that criticized credit unions for offering "false payday loan `alternatives'" that actually cost about as much as a typical payday loan.

Stango also cites evidence form his own small survey of payday loan borrowers in Sacramento, California, that many of them prefer the higher fees and looser restrictions on payday loans to the lower fees and tighter restrictions common on similar loans from credit unions. Those interested in a bit more background might begin with my post from July 2011, "Could Restrictions on Payday Lending Hurt Consumers?" and the links included there.

The BP Spill: What's the Monetary Cost of Environmental Damage?

To contact us Click HERE
 In April 2010, the BP Deepwater Horizon oil drilling rig suffered an explosion followed by an enormous oil spill. Here, I'll first lay out the question of much BP is likely to end up paying as a result of the spill, a number which is gradually being clarified by the passage of time and evolution of lawsuits. But beyond the question of what is going to happen, economists face a controversy about how best to place a dollar value on these kinds of environmental damages--and the most recent issue of my own Journal of Economic Perspectives has a three-paper symposium on the "contingent valuation" method.
A couple of weeks ago, Attorney General Eric Holder announced at a press conference in New Orleans: "BP has agreed to plead guilty to all 14 criminal charges – admitting responsibility for the deaths of 11 people and the events that led to an unprecedented environmental catastrophe.  The company also has agreed to pay $4 billion in fines and penalties. This marks both the single largest criminal fine – more than $1.25 billion – and the single largest total criminal resolution – $4 billion – in the history of the United States."
But as Nathan Richardson of Resources for the Future points out, the criminal penalty is a small slice of what BP will end up paying: "But remember that this criminal settlement is only a small part of BP’s liability. Earlier this year, BP reached a preliminary $7.8b class settlement with a large number of private plaintiffs (fishermen, property owners, etc.) harmed by the spill. That agreement is currently under review by a federal district court judge. This is in addition to $8b in payments made to private parties who agreed not to litigate (from BP’s oil spill “fund”). Future payments to private parties are likely as claims on the fund are resolved or as those who were not part of the class settlement pursue separate claims. BP also claims to have paid out $14b in cleanup costs.
But that’s not all. BP still must face civil suit from the federal government (and states) over natural resources damages. ... BP also faces civil penalties under the Clean Water Act, which would quadruple from $5.5b to $21b if gross negligence is found. In other words, BP will pay out the largest criminal settlement in U.S. history and it will be only a small share of its total liability."

I don't have anything new to say about the parade of events leading up to the spill, nor about the halting efforts to stop the flow and start a clean-up. For details on what happened, a useful starting point is the report from the National Commission on the BP Deepwater Horizon  Oil Spill and Offshore Drilling  that was released in January 2011. From the Foreword of that report: "The explosion that tore through the Deepwater Horizon drilling rig last April 20 [2010], as the rig’s
crew completed drilling the exploratory Macondo well deep under the waters of the Gulf of
Mexico, began a human, economic, and environmental disaster. Eleven crew members died, and others were seriously injured, as fire engulfed and ultimately destroyed the rig. And, although the nation would not know the full scope of the disaster for weeks, the first of more than four million barrels of oil began gushing uncontrolled into the Gulf—threatening livelihoods, precious habitats, and even a unique way of life. ... There are recurring themes of missed warning signals, failure to share information, and a general lack of appreciation for the risks involved.... But that complacency affected government as well as industry. The Commission has documented the weaknesses and the inadequacies of the federal regulation and oversight, and made important recommendations for changes in legal authority, regulations, investments in expertise, and management."

In editing the Fall 2012 issue of my own Journal of Economic Perspectives, I found myself focused on a narrower issue: How does one put a meaningful economic number on widespread environmental damage. The issue has three papers focused on a method called "contingent valuation," which involves using survey results to estimate damages. Catherine L. Kling, Daniel J. Phaneuf and Jinhua Zhao offer an overview of the disputes and issues surrounding this method. Then, Richard Carson makes the case that contingent valuation methods have developed sufficiently to be an accurate  estimating technique, while Jerry Hausman offers a skeptical view that contingent valuation surveys are so fundamentally flawed that their results should be completely disregarded. As usual, all JEP articles from the most recent back to the first issue in 1987 are freely available on-line, compliments of the American Economic Association.

From an economic perspective, the fundamental difficulty here is that not all the environmental damages affect economic output. A major oil spill, for example, affects production directly in industries like fishing and tourism and other industries directly, but it also affects birds and fish and beaches in ways that don't show up as a drop in economic output. In the economics literature, these losses are sometimes know as "passive use value." The notion is that even if I never visit the Gulf Coast around Louisiana and Mississippi, nor eat fish caught there, my utility can be affected by the environmental destruction that occurred. Thus, the argument goes that economic theory should take this "passive use" into account--roughly, the value that people place on the environmental damage that occurred--in thinking about lawsuits and policy choices.

The immediate objections to contingent value methods of setting such values are obvious: If people are just asked to place a value on environment damage, isn't it plausible that their answers will be untethered by reality? Richard Carson, a strong advocate of these methods, faces such skepticism head-on. He writes: "Economists are naturally skeptical of data generated from responses to survey questions—and they should be! Many surveys, including contingent valuation surveys, are inadequate." He also argues, "The best contingent valuation surveys are among the best survey instruments currently being administered while the worst are among the worst."

Carson emphasizes that a high-quality contingent valuation survey takes considerable care to provide what can be several dozen pages of focus-group-tested information to consider, and emphasizes to the responders that the results of the survey are likely to help guide policy outcomes. In such a setting, he argues that people have the information and incentives to answer truthfully. Hausman responds that such surveys are plagued by difficulties: for example, the "hypothetical bias" that people tend to overstate their value when they aren't actually paying; or that valuations can vary according to how questions are phrases, like whether the question asks about willingness-to-pay to avoid environmental damage or willingness-to-accept that the same amount of environmental damage will be done; or that when people value, say, three projects separately or the combination of those three projects, their answers often don't add up. Carson discusses how those who carry out such surveys seek to deal with these issues and others. Hausman says that legislatures, regulatory agencies, and courts, relying on expert opinion, are by far a preferable way to take passive use value into account. Kling, Phaneuf and Zhao point out that over 7,000 of these contingent valuation studies have been done in the last two decades, provide a background and framework for thinking about all of these issues. Of course, those who want all the ins and outs and gory details are encouraged to check out the articles themselves. 



To my knowledge, no contingent valuation surveys of the costs of the BP oil spill have yet been published. But it is interesting that after the Exxon Valdez spill, the eventual settlement roughly matched the estimates of the contingent valuation study. As Richard Carson notes: "Soon after the Exxon Valdez spill in March 1989, the state of Alaska funded a contingent valuation study, contained in Carson, Mitchell, Hanemann, Kopp, Presser, and Ruud (1992), which estimated the American public’s willingness to pay to avoid an oil spill similar to the Exxon Valdez at about $3 billion. The results of the study were shared with Exxon and a settlement for approximately $3 billion was reached, thus avoiding a long court case." As contingent valuation studies of the BP spill are published, it will be interesting to compare them with the amounts that BP is paying in the aftermath of the Deepwater Horizon spill.