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Data shows short term loans not as harmful as some think

Jan 23, 2014 Philip Burgess

Data shows short term loans not as harmful as some think

The short term lending industry is often the subject of scathing reports and comments from elected officials across the United States. Lawmakers often label short term services as a detriment to the economy and a financial trap for consumers. However, millions of Americans still rely on short term loans each year, a sign that the sector may not be as harmful as some critics say it is.

In fact, a recent working paper from the Federal Reserve Board's Finance and Economics Discussion Series found that short term products may not have a negative impact on consumer finances. MainStreet reported that the paper's author and lead researcher, Neil Bhutta, found that short term loans have little effect on consumers' credit scores, a barometer he used to determine financial strength.

"Overall, I find little to no effect of short term loans on consumers' financial health," Bhutta wrote, according to the source. Moreover, he stated short term loans are "slightly beneficial, if anything."

Although the loans are often lambasted for featuring what are perceived to be high interest rates, they can quickly and easily be accessed. As a result, MainStreet noted that a large portion of consumers view them as a more viable alternative than missing a loan payment. Also, it's important to note that short term loans do not operate in the same way other lending services do. The lifespan for these loans is typically limited to only a few months, meaning a high interest rate on a small loan is hardly a money pit.

Better alternative for many consumers recently reported on the argument made by short term loan operators in Birmingham, Alabama, who make the case that the products are useful. The source suggested that cash advance leaders believe most short term borrowers would rather pay the state-regulated 17.5 percent interest rate on a $100 loan than being dealt a $35 fee for a bounced check.

As is the case with any financial tool, there are a handful of instances in which short term loans may not work out for consumers. However, this does not mean such services are intrinsically harmful or negative. Rather, it means that regulators simply do not understand how short term loans work. As such, they are more likely to pass on false information to the public, which could ultimately hurt consumers' chances of taking advantage of a useful financial service. For this reason, officials should take steps to educate consumers rather than regulate short term lenders.