Left: The Free Market Fairy being ornery.
Thinking through my previous post again, the Free Market Fairy tells me, "fixed costs? BAH! If that was the answer, you'd see Wal-Mart sized payday loan stores." That is, a payday loan store with more customers would have lower costs per customer and thus be able to provide payday loans for less money than the stores with fewer customers. The end result would be stores with more customers getting bigger and bigger as they use their lower per-customer costs to undercut the small stores, and stores with fewer customers would go out of business as they lost customers and had to raise their prices higher and higher to meet their fixed expenses.
But we're not seeing that. Instead, we're seeing an explosion in the number of payday loan storefronts. So why aren't we seeing the Walmartization of the payday loan market? That's irritating me. It's as if the Free Market Fairy is having a bad day, and has decided to take it out on the payday loan marketplace.
-- Badtux the Baffled Penguin
The answer has to come down to numbers. What are the barriers to entry? Not much. If the typical lender only has $100K in loans out - hell, I could raid my IRA and do that.
ReplyDeleteWhat are the incentives to consolidate?
What are the barriers to consolidation?
Get those answers and you'll be a long way toward a solution.
Are the fixed costs really that high? Is a store-front in a poor neighborhood expensive? OTOH, does security run the cost up? Do these businesses have employees, or are they one man shops?
You can buy certificates of deposit at WalMar. the more cogent question is why isn't WalMart in the payday loan business.
It's not as if they weren't predatory . . .
Hmmmm . . .
jXb the inquiring trombonist
Incentives to consolidate? None. But over the long term, the larger your payday loan business becomes, the more customers you have to amortize your fixed costs over. So why aren't we seeing Walmart-ized payday loan vendors?
ReplyDeleteBarriers to consolidation: Yes, that's the question indeed. There is geographical barriers -- servicemen without cars can only go to outlets that are near or on base -- but the report points out that even those outlets where there's real competition (i.e., no geographical barriers to explain it) seem to not end up with there being a clear winner who drives the others out of business via having lower per-customer fixed costs. Is it perhaps that they can't get sufficient capital to grow because banks won't lend money to them? That's the only thing I can think of.
The paper explains it as possible price-fixing or collusion on the part of the payday loan vendors. But over time, you should still see the industry Wal-martize, and there's no such evidence of collusion, there shouldn't be, because they're in business to make money and the way to make money is to go big. You just can't make a lot of money out of a small storefront with a $100K loan inventory.
Regarding WalMart and the payday loan business, my guess is that they're afraid of the PR repercussions if they let a payday loan business establish itself in their stores. Plus they appear more interested in pushing their credit card, which is more profitable, plus they have more profitable uses for the floorspace that could be used by a payday loan outlet.
Are the fixed costs really that high? Yeah, pretty much. Figure that even at 200% interest on a $100K outstanding loan portfolio you're going to probably lose half the loans when they don't show up to redeem the loan and you try to cash the check and it bounces, taking you down to 100% effective APR over the course of the year, or about $8,333 per month. Out of that you have to pay rent and your own salary and probably the salary of an enforcer and a couple of cashiers, as well as the costs of your security system and so forth. In short, the high interest rates are directly related to fixed costs here, you can do the math yourself. It's not a bad return on investment on that $100K at all, but you're not going to get rich in the business unless you go big.
So why aren't they going big? I'm still baffled... maybe a lack of capital to go big might explain it, but why would they lack capital to go big over the long haul? Even if funding going big out of their own cashflow you'd think eventually it'd happen...
- Badtux the still-puzzled Penguin
I think you hit on something with the logistics problem.
ReplyDeleteAnd if the rate of return is low, despite the high interest, and default risks are high, and it's physically dangerous to be dealing in cash, than the basic business model is unattractive.
And WalMArt does better allocating is resources in other ways.
So you're left with a marginal business, probably run by marginal people.
Sometimes, life is just a bitch.
JzB
WV: typothou
Looks like the WV fairy has been reading my posts
Thing is, it *shouldn't* be so marginal, it's marginal because there's so many small players that their fixed per-storefront costs are driving interest rates to 200% and beyond, but somebody should have already done a Wal-Mart and drove those costs down by going big. But nobody has. Or, rather, the people who *have* gone big, have done so by franchising more storefronts, not by driving more traffic through larger storefronts. It's the Starbucks model of how to make a fortune in the payday loan business, sort of like how you can walk past the Starbucks in the lobby of Sears in downtown Vancouver B.C., look across the street... and see a Starbucks. But selling crappy coffee for prices that are high but not obscene is a business model that doesn't easily Walmart-ize (for some reason people just don't like going into huge coffee shops, the echos seem to scare them), while there's nothing about the payday loan business that says that you can't go large.
ReplyDeleteSo why is the payday loan business more like Starbucks than like Walmart? I'm still baffled...
- Badtux the Puzzled Penguin
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ReplyDeleteFriggin' spammers. Grrr!
ReplyDelete