The United States is the wealthiest nation in the world, but that figure only extends to the gross domestic product (GDP). Americans themselves are in a massive amount of debt. According to the Federal Reserve Bank of New York, Americans ended quarter three of 2019 with $13.95 trillion in household debt, which is substantially more than the previous peak of $12.68 trillion in 2008.
Debt doesn’t need to be a bad thing. Wealthy nations keep interest rates low to make it easier for entrepreneurs and small businesses to borrow cash and grow their business. Consumers can also use tools like credit cards to earn rewards and make the most of their spending (as long as they do their research and borrow responsibly). Debt is also a way to build wealth by getting onto the property ladder.
However, poor Americans are also massively in debt, and they have a more difficult time paying it off. According to Morgan Stanley Research, the crippling debt facing the working class and working poor is “eroding” the middle class. Stagnant wages and the rising cost of living forces too many Americans to live beyond their means, but there’s also another issue: the best credit products are reserved for the rich. And the poor are faced with a series of bad-to-worse options offered by predatory lenders, who trap them in a cycle of debt.
What is Predatory Lending?
The term ‘predatory lending’ conjures up visions of pawnshops and payday lenders. Indeed, these are forms of predatory lending. However, it’s a much broader problem that’s used even by FDIC insured banks. The U.S. housing bubble and subsequent subprime mortgage crisis in 2008 is one great example of the scale that it can reach and just how many institutions can be involved.
Predatory lending includes actions used by lenders to entice or assist a borrower in taking out a loan that doesn’t serve the borrower and has huge value for the lender. These can include loans that have extortionate fees, high-interest rates, or a product designed for lower credit scores than the borrower has. For example, prior to the mortgage crisis, some predatory lenders tried to mischaracterize the applicant’s credit history as being worse than it was to force them into higher fees and interest rates.
Most U.S. states enacted anti-predatory lending laws to protect consumers from products that trap them in debt with no way out. After the mortgage crisis, the U.S. Department of Housing and Urban Development did the same thing by forcing mortgage originators to seek licenses, stop steering consumers to loans they can’t repay, and being more truthful in the application process. However, other types of predatory lending programs have emerged. Uber now offers a loan program to its drivers that critics say could trap them in “crushing debt.” It appears to be a payday loan program with Uber’s stamp of approval and the company trialed it in India, Brazil, and Peru.
Creditors Target the Poor in America Unlike Anywhere Else
Debt allows the average consumer to make big purchases in exchange for a fee for the lender. It also allows businesses of all sizes to grow and thrive. In theory, well-managed debt builds wealth. However, the promise turns on its head when it comes to the middle and working-class — and it’s an issue relatively unique to North America.
In the European Union, the amount of debt held by a household grows as the household’s income rises. When the household earns more, it is better able to afford debt. As the Morgan Stanley Research report found, poor people in European countries don’t carry huge amounts of debt.
On the contrary, Morgan Stanely reported that one in five American families earning under $41,200 has a debt burden of around 40%. How are people with low incomes allowed to borrow that much money? And what kinds of products are they using? A huge part of the problem for low-income earners, in particular, lies in predatory lending, which disproportionately targets and impacts the working poor who don’t have access to other types of credit.
The Banks Are Partly to Blame
Predatory lenders make their intentions clear: they exist to milk as much money from each customer as possible without regard for the customer’s financial wellbeing. Few people look at a 1,000% interest rate and think it sounds like a good idea. At the same time, many low-income earners have no other choice. Even among young people, who are increasingly financially literate, predatory lending is rampant as 2 in 5 millennials have used payday loans.
Why is this happening to another generation of Americans? It’s because their own banks won’t serve them.
In 2017, the Federal Reserve found that the country’s largest banks (Bank of America, Wells Fargo, and JP Morgan Chase) stopped borrowing to people with low incomes. Mortgages for low-income earners dropped from 32% to 15% between 2010 and 2016. Those banks will accept low-income earners money through checking and savings accounts, but they will no longer lend them to them.
What’s worse is that it does not need to be this way, and in the past, it wasn’t. The U.S. government has previously used banking institutions (credit unions, Morris Banks, and savings and loans) to offer low-cost credit to help lift low-income Americans out of poverty. With the collapse of help and interest from the government combined with the banking sector’s decline in interest in providing complete service to their customers, people who need to access credit need to turn elsewhere. The door for predatory lenders remains open despite legislation.
The Impact Predatory Lending Has on Poor People
Lenders like to make it sound simple: borrow money now, pay it back later. Don’t borrow more than you need. Manage your money. Ask your family for help if you can’t make a payment. However, nothing about borrowing from a predatory lender is that simple. Because when you take out a payday loan or another type of predatory credit product, you end up paying back two to three times as much. If you have to miss a payment, the debt spirals out of control quickly.
Borrowing once can lead to thousands of dollars in debt years later. Research from the Consumer Financial Protection Bureau found that one in five people who use a car title loan will lose their car.
The financial losses are just the beginning. Research shows that there’s a direct link between financial health and physical health. People who have low-incomes and high debt-to-income ratios are much more likely to have poor physical health, which in turn makes it harder for them to earn an income. Being able to pay your bills greatly increases the chances that you’ll remain healthy. Further research in the UK found that aggressive debt collectors raise the risk of suicide.: the government found that 100,000 people in debt attempt suicide each year in the UK with people in problem debt three times as likely to consider self-harm.
The Banking System is Failing Americans
Legislators try to prevent predatory lenders from ruining the lives of more Americans by rewriting the laws. However, those new rules only go so far. They don’t solve the fundamental problem: consumer debt is high, wages are stagnant, and banks are increasingly ignoring working-class and poor people’s credit needs.
There is nothing good about predatory lending. It serves no one but the greedy institutions that practice it.
Until there’s a holistic look at improving the financial lives of Americans, their physical and mental health will continue to suffer and a new generation will be trapped in poverty.