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“It’s time to end this … system of exploitative lending that keeps Americans trapped in debt. Rates on all consumer loans and credit cards should be capped at 15%.” 

“I have such amazing service every time I go in to get a loan! I highly recommend coming in when you need a helping hand. They won’t let you down!” 

You shouldn’t be surprised both quotations are from people talking about payday lenders. One is Senator Bernie Sanders; the other is a representative Google review from a payday loan user.

According to a study by Pew Charitable Trusts, the average payday loan has a jaw-dropping 390% APR. In contrast, my standard-issue credit card charges 0% for the same two-week loan. Not only that, the average loan user rolls the loan over for five months and takes out eight loans a year, which costs him $520 in annual interest. Dig even deeper and you’ll find 69% of loans are used for recurring expenses and 8% percent for nonessentials like vacation and entertainment. This means most loans are used routinely to make ends meet, rather than for dire emergencies. 

With the poor spending so much in a cycle of dependence on high-interest loans, it looks like Sanders has a point. The system seems quite exploitative. Under such circumstances, it seems like the easiest way for the victims to exact a little revenge would be to post an anonymous review to warn others that “It’s a trap!!!” 

Yet, pick any city and search for payday lenders. I picked lenders in Fresno, California listed on Google Maps and scrolled through the top 50. Only five had a lower rating than four stars and many were five-star rated—with hundreds of positive reviews. As one said, “Almost thirty years I’ve been coming here, I can’t give enough five stars!” Compare that to banks in Fresno: 38 of the top 50 were rated lower than four stars. It’s not close, compared to other financial institutions, payday lenders are beloved by their customers.

So most customers like the system, but that begs another question: If customers like the system does that mean it’s good? 

Not necessarily. Just because people like something doesn’t mean it helps them achieve their long-term goals. Indeed, cigarettes may get good reviews—yet there are millions of chain smokers suffering from cancer or emphysema who regret their decision. 

On balance, there are responsible use cases for short-term loans. People with poor credit just getting started—or re-establishing themselves after a financial loss—may need a few days worth of margin to get by.

Yet the typical consumer uses them as an open line of credit—and the burning question is, “Why?” Ignorance is at least one factor, as people in poverty are measurably worse at financial literacy. Deceptive lender practices may be another contributor. Cultural norms are likely another, i.e., the same dynamic that drives many in the middle-class to remain in credit-card debt to “keep up with the Joneses.” 

Although market advocates prefer to believe the majority of human economic decisions are rational and that absolute bans do more harm than good, there’s decent evidence that banning payday lenders has net positive effects: When forced to quit, it shows that most former customers just choose not to use credit, rather than turn to a black market alternative. Similarly, the much-maligned Prohibition era effectively reduced mortality and violence, and improved health. And if junk food were banned, I’d eat less because while I enjoy it, I wouldn’t expend the energy to hunt down speakeasy burgers and fries. 

Yet, net positive effects are an insufficient reason to ban these lenders. Even Bernie Sanders doesn’t favor banning alcohol or grease ostensibly because he believes people ought to have some level of agency to make choices. 

Still “loan sharks’” immoral wealth at the expense of the poor seems to provide a rationale for restrictions on their lending practices, doesn’t it? 

Alas for the demagogues! Payday loans are a low-profit business. External industry analysis puts the average storefront lender’s profit margin at around 4%, half of a typical Starbucks franchise (9%) and three times less than mainstream commercial lenders (13%).

As counterintuitive as that seems, it makes sense. First, the loans are small and short-term, so anything less than a triple-digit annual interest rate would generate only a few pennies. Second, operational costs are very high, as the business model involves brick-and-mortar stores and full-time employees. Third, default rates are very high because most customers have been rejected by credit card companies and thus pose a high default risk. Finally, competition is steep, which forces payday loans to efficiently meet the demands of their customers. A typical small town will have half a dozen lenders and hundreds of online competitors. 

So three cheers for capitalism and 390% interest rates for the poor, right? 

Not so fast. 

The payday loan industry is a good example of a market limitation. Namely, free markets are based on exchange. They generate tremendous wealth through voluntary exchanges. However, if you can’t offer much value, you won’t receive much in return. That can leave low-income consumers in a vicious cycle of setbacks: They want to improve their situation but can’t recover from loans taken to cover the cost of flat tires, broken phones, or infected teeth. 

Politicians usually “fix” these problems by berating the market for its inability to provide unprofitable goods and services or by generating government subsidies for people in need. These aid programs are inevitably one-size-fits-all and create perverse incentives that don’t improve upon the market’s limitations.

Fortunately, the market and state are not the only shows in town. Civil society—a voluntary cooperative motivated by love—is a powerful third sector. If this sounds too good to be true, recall that hundreds of millions of Americans contribute very little to the market during the first 18 years of their lives, relying instead on their families’ generous support.

Other facets of civil society are well adapted to serve people in poverty. Extended families, neighborhood associations, religious communities, and nonprofits can provide education to those stuck in poor financial situations by poor choices … and offer better options to those for whom payday loans are their only viable source of credit.

Can private charity fundamentally change the financial system for the poor? 

It has in the past. Despite having drifted from their original purpose, pawn shops were invented by 15th century Italian monks to assist the downtrodden. Today, low-interest micro-loans and mutual lending circles carry on this tradition. Likewise, the True Charity Network is a national coalition of churches and nonprofits that empower people to exit poverty and lead flourishing lives. 

Part of those efforts center on helping people gain independence from payday loans. Member organizations offer relevant financial education, mentorship, transportation, affordable housing, awards for performance, scholarships, and temporarily subsidized food to help people get on their feet. Some even offer matched savings or no-interest cash advances in direct competition with payday lenders. This is accompanied by a gentle yet firm insistence that people do what they can to improve their situations.

Those who participate in such programs can end the use of routine payday loans via charitable options for borrowing in an emergency. This provides both a short and long-term solution, as growth in their relationships and financial stability eventually means they no longer need to rely on their church benevolence fund. While many in poverty already benefit from such solutions, many others could be helped if more Americans believed civil society is as competent to solve issues in poverty as Uncle Sam or Silicon Valley.

I would love to see payday lenders close up shop for the same reason smallpox specialists no longer exist—because there is no demand for their services. Such a shift is only possible when a robust civil society addresses root causes outside of the reach of both government programs and market innovations. 

This article was originally published by the Foundation for Economic Education.

Want to make your charity efforts more effective? Learn more about True Charity’s proven principles by following the Ennoble Podcast on your favorite listening platform. 

James Whitford
Founder & CEO
Read more from James

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If you’ve attempted to help others out of poverty for any length of time, chances are you’ve run into a question that no amount of concerted effort will make go away. It’s one that’s plagued just about everyone good-hearted and giving enough to try to make a difference:

“Is this doing anyone any good?”

Handouts lead to more handouts — to the same people. More handouts lead to expectations — from the same people plus others they tell about the stuff they’re getting. Expectations eventually lead to dependency that traps them in a hopeless cycle of enslavement to “what others can do for me.” 

Twenty years into poverty alleviation, I’ve seen it — and seen it everywhere. That’s why I’ve shared my thoughts in my new book, The Crisis of Dependency: How Our Efforts to Solve Poverty Are Trapping People In It And What We Can Do To Foster Freedom Instead. 

In the following excerpt, I share one of the most valuable lessons we can learn in moving away from that question so we turn our well-intentioned effort into truly effective charity. As I point out, doing so means moving one step closer to bringing justice to those we serve: 

Every few months, a handful of students from our men’s long-term recovery program spend a week with me and my wife. We have morning devotions together, eat together, work outdoors together, and enjoy time fishing, throwing horseshoes, or laughing around a campfire. These men all meet the standard definition of poverty, but there’s no sign of that during our week together. It’s seven days of sacrifice, effort, and solidarity rooted in compassion, responsibility, and relationship. These means to an end become an end in itself — justice. This isn’t easy but it’s beautiful. It is to desire being with more than doing for.

Bruce gets this. He lives in White Clay, Nebraska, with his wife, Marsha. They founded a ministry to help the Lakota Natives on the reservation in Pineridge, South Dakota. This particular reservation is one of the most impoverished areas in the Western Hemisphere, rivaled only by Haiti.

Once, Bruce and I were in his truck heading north from White Clay to Pineridge, and he was lamenting the constant barrage of short-term mission trips. He said something I’ve remembered for years: “James, I want people to stop coming and doing for the Lakota people. I want them to come and be with the Lakota people.” After living there for years, Bruce and Marsha have learned that good intentions often result in a lot of activity, but that doing for rather than being with is a means that falls woefully short of justice.

Bruce and Marsha have the hearts we all need — hearts to trade short-term, long-distance mission trips for short-distance, long-term relationships. And it is in those relationships that we get close enough to understand the real need. There are no “distant” fixes for poverty…

The last time I visited the Vietnam Veterans Memorial, I was there to see one specific name on a wall of 58,318 names memorialized for the ultimate sacrifice they paid on the battlefield: William H. Pitsenbarger, or “Pits.”

On April 11, 1966, thirty-five miles east of Saigon, twenty-one-year old United States Airforce pararescueman William Pitsenbarger was lowered through the trees by a helicopter into a firefight where injured Army soldiers were pinned down. He tended to their injuries and helped soldiers into the lift basket. When the helicopter began taking on enemy fire, the pilot called Pitsenbarger to return to the chopper, but Pits waved him on, remaining with the other wounded soldiers, improvising splints and stretchers out of vines and saplings. It’s estimated that he saved sixty men that day before he was shot and killed by a Viet Cong sniper.

Pitsenbarger knew the only way to help these men was to be in the fight with them. Dumping aid from a chopper would have been futile. Sure, they could have simply dropped crates of bandages, tourniquets, and morphine syringes, and then they could have flown away saying they did something for the injured. But Pits knew that in order for each soldier to receive what he really needed, he needed to be with them. Each man required individualized triage for his unique injury.

In other words, to do for them well, he had to be with them first.

The same is true for impoverished individuals. There is no way to shortcut the process of helping people out of poverty. Ultimately, it requires someone who desires “being with” before “doing for.” Unfortunately, our country and communities have a tremendous number of energetic planners who want to do something about poverty more than they want to be with people in poverty. And as long as that inversion persists, the poor will never receive the relational inspiration or the social capital required to escape poverty; they will never be welcomed into circles where new opportunities are born; and they will never be encouraged toward avenues that create wealth.

Help people gain lasting freedom from dependency! For more of these key principles, order your copy of James’ book today.  (Also available on Amazon.)