Broke, USA

trade organization told Cheklist magazine.

Inside the payday industry, they see a business less profitable than it had once been and conclude they can’t be ripping people off. With more competition and a lowering of the rates so that $15 per $100 is pretty much the standard in most states (exceptions include Montana, where lenders tend to charge $20 for every $100 borrowed, and Missouri, where they tend to charge $25 per $100), the days of 20 percent or more profit margins are over. Yet payday is still plenty profitable. Advance America, for instance, reported a profit margin of 8 percent in 2008. That meant the company had a higher profit margin than Hewlett-Packard, Target, Office Depot, or even Morgan Stanley. In fact, despite the increased competition and greater regulatory prescriptions, Advance America’s profit margin would place it ahead of more than 60 percent of the companies in the Fortune 500.

Still, the lenders are right when they argue that the economics of the stand-alone payday shop don’t work with a 36 percent rate cap. That works out to a fee of $1.12 per $100 borrowed rather than $15, which wouldn’t even begin to cover fixed costs such as salaries and store leases. But then why is there something sacrosanct about the free-standing payday store? McDonald’s would no doubt be a money loser if its franchises carried nothing except hamburgers, but they also sell fries and shakes and desserts and other concoctions to help pay for the cost of the restaurant and the salaries of the people who work there. The State Employees’ Credit Union of North Carolina, one of the country’s largest (the state’s teachers are eligible), has been making payday loans since 2001. They charge a fee that works out to an annual percentage rate of 12 percent and yet the credit union’s CEO, Jim Blaine, describes the product as “the single most profitable loan we make.” But of course their tellers do more than just write payday loans, and their branches are supported by revenues from a wide range of services, from car and home loans to more routine banking functions.

The payday lenders would diversify their offerings—eventually. In April 2008, Allan Jones first started experimenting with check cashing at select stores, and by the time I visited him in February 2009, check cashing was available at around half his stores, along with wire transfers through Western Union. Advance America announced in 2008 that it had cut a similar deal with MoneyGram; at the same time, the company began selling prepaid debit cards and Visa gift cards at all of its stores. Check ’n Go had experimented with the tax refund anticipation loan at its stores years earlier then dropped the practice. But it too began offering check-cashing and wire transfer services at select stores and announced in 2009 that it would offer car title loans in states where they were permitted to do so by law. “Before we were just focused on taking care of our customer,” Allan Jones said. “Now we’re trying to survive.”

Or trying to thwart the will of the people. Despite the express wishes of the Ohio state legislature and more than 60 percent of the electorate, all the big payday lenders were still making short-term cash loans in Ohio. Incredibly, some were charging rates that worked out to more than 391 percent annually. “Like mosquitoes adapting to a new bug spray,” wrote Thomas Suddes, a columnist for the Cleveland Plain Dealer.

The lenders had found any number of clever ways to do so. Most had applied for licenses either under the state’s Small Loan Act or the Mortgage Loan Act. A business couldn’t charge more than 28 percent interest under either of these acts but there was no preventing a lender from charging a loan origination fee or making a borrower pay a fee for a credit check. The more aggressive companies went one step further, issuing the advances in the form of a check and then charging a steep fee to cash it. Under this new system, the APR depended on the amount of the loan and the audacity of the lender but one local business figured out that it could charge as much as 423 percent under the Small Loan Act on a $100 loan and 680 percent under the mortgage loan law. Bill Batchelder and others were working on legislation that would eliminate what Bill Faith and others dubbed “loopholes” in the law but they could be certain that the payday lenders would not be leaving Ohio anytime soon. It had taken North Carolina five years to finally drive them out of the state.

If it was in an airplane somewhere over Pennsylvania where I started thinking differently about the payday loan, then it was in a meeting room in the bowels of the Mandalay Bay resort during the annual meeting of the check cashers in 2008 that I began to liken the entire Poverty, Inc. industry to those energy companies whose strip-mining destroyed vast tracts of wilderness areas until the practice was made illegal in the 1980s. There, Jim Higgins, the Vincent Gardenia look-alike, was teaching the smaller operators the tricks of the trade, from raffled-off iPods to the payment of kickbacks to local business people who send them business.

“A dentist sends you a reminder card.” That’s what Check ’n Go’s Jeff Kursman said when we talked about his company’s practice of phoning people who haven’t been to one of their stores in the previous sixty days. “Some haircut places do it also.” In Ohio, I would come across a company, Heartland Cash Advance, that has its managers start phoning customers who haven’t been into the store for thirty days. And why not, asked Larry Hauser, the owner of Heartland. “I call my customers every week for the same reason a car-servicing company sends you a message when it’s time to get your oil changed,” he said.

I was reminded, and not for the first time, of an interview I had done a couple of years earlier with Gary Loveman, the CEO of Harrah’s, when I was a staff reporter at the New York Times writing frequently about the gambling industry. Loveman, who has a Ph.D. from MIT and for years had taught at the Harvard Business School, had moved over to Harrah’s in 1998 as kind of a real-life experiment: After years of studying how some of the country’s more successful companies used marketing and new technologies to grow their businesses, could he apply that book knowledge to a once-profitable casino chain that had grown fat and moribund? Among the innovations Loveman introduced to the casino industry was the use of sophisticated data mining tools to better understand the gambling habits of individual customers and market to them accordingly, and the introduction of a rewards program so effective that in time every other big casino chain would appropriate the idea. When we spoke, Loveman seemed particularly impressed by the marketing genius of the credit card companies and he told me they frequently served as a model as he strove to turn the gambler who visited a Harrah’s property three or five times a year into one who visited eight, ten, or twelve times the next year and gambled more with each successive stay. By the time we sat down over breakfast at one of his properties on the Las Vegas Strip, Loveman was widely hailed as the man who brought the casino into the twenty-first century. Yet as I listened to him, I grew horrified by the cold efficiency with which Harrah’s systematically harvested ever more money from its most loyal customers.

I had a similar feeling sitting through Higgins’s ninety-minute presentation on tips for turning the $1,000 customer into one who spends $3,000. We spoke after his talk and Higgins, like Loveman, was anything but defensive. These were legitimate businesses, he said, run by legitimate people, doing what any other business would do to increase its profits. Maybe. But his talk and others like it left me thinking that it wasn’t a fair fight being waged on the rougher fringes of the financial universe. On one side, you had the policy wonks, consumer advocates, and the other well-intentioned reformers pushing their pilot programs for the unbanked and advocating for better financial literacy education. On the other side, there were the pseudo-bankers in their strip mall storefronts wielding a powerful arsenal of weapons they learned from the likes of Jim Higgins. Short of government intervention, the consumer advocacy side didn’t stand a chance.

Ben Bernanke took over as chairman of the Federal Reserve in February 2006. A Republican who had served as chairman of President Bush’s Council of Economic Advisers just prior to his promotion to the top spot at the Fed, Bernanke was no one’s idea of a consumer champion. Yet he was a vast improvement over Alan Greenspan, at least in the fight against predatory lending. His campaign against what he ultimately called “unfair and deceptive” loans began with a series of public hearings into mortgage lending the Fed held in the summer of 2006. At the end of 2007, the Fed issued a new set of rules governing any mortgage carrying an interest rate just 1.5 percent higher than the average rate paid by prime borrowers—its new definition of a “higher-priced” loan. Under the new rules, lenders can no longer make a higher-priced mortgage without regard for a borrower’s ability to pay. The Fed restricted the use of prepayment penalties in higher-priced mortgages and banned the use of “stated income” loans—the so-called liar loans that required no proof of income. The Fed also prohibited lenders and mortgage brokers from advertising only the lower teaser rates on an adjustable rate mortgage.

The Center for Responsible Lending and other consumer groups praised the Fed for what the CRL dubbed a return to “common-sense business practices” in subprime lending—and then castigated the Fed board of governors for not going far enough. Mike Calhoun, CRL’s president, criticized the Fed for failing to rein in option ARMs—the very product that had made Herb and Marion Sandler billionaires—and called on the Fed governors to do something about yield spread premiums. It was hard to justify these payments that were nothing but kickbacks lenders paid mortgage brokers to put borrowers in costlier loans. North Carolina had banned yield spread premiums. It was time