Preying on the Poor

by Russ Roberts on May 17, 2007

in Standard of Living

This week’s Business Week has a cover story on how companies are making profits off of poor people. It’s actually worse than that. They try and make money off of the working poor.

The main focus is on debt. Companies now have better technology than they had in the past for assessing credit risks. The result is that poor people have more access to credit than they’ve had in the past. How is this a bad thing? Well, it turns out that some people borrow too much and end up unable to pay off their loans.

The article fails to note that this happens to rich people, too.

The article fails to note that lots of poor people now have cars and TVs and houses they couldn’t have before because they didn’t have access to credit.

The article fails to note that in America, companies make money selling things for more than they cost. That results in profit. Failure to make profit for an extended period of time results in bankruptcy and the death of the company. Business Week preys on its subscribers. The magazine tries to be as appealing and useful as possible so it can pay its employers and leave some over for its investors.

The main theme of the article is that sometimes, poor people end up worse off by borrowing money. The fault is the company that lent the money:

"People are being
encouraged to live beyond their means by companies that are preying on
low-income consumers," says Jacob S. Hacker, a political scientist at
Yale.

Preying on low-income consumers? So poor people are mice and companies are owls? Poor people are gazelles and companies are lions? Poor people are bugs and the companies are venus fly traps? People are being encouraged to live beyond their means by companies? Ah yes, it’s not in our genes to want more, it’s something being foisted on us by companies that prey on us. 

It reminds me of the state-run liquor stores in Alabama where my parents live. They are ugly and uninviting. the lighting is harsh. There’s no attempt to make the product appealing. Making shopping for liquor a pleasant experience might encourage me to enjoy myself. Or worse, get drunk. I guess we’re lucky that they let us buy liquor at all in Alabama. Business Week should produce its cover in black and white rather than in color. You don’t want to encourage poor people to buy it.

Here’s my favorite paragraph in the article:

Some economists
applaud how the spread of credit to the tougher parts of town has
raised home- and auto-ownership rates. But others warn that in the long
run the development could slow upward mobility. Wages for the working
poor have been stagnant for three decades. Meanwhile, their spending
has consistently and significantly exceeded their income since the
mid-1980s. They are making up the difference by borrowing more. From
1989 through 2004, the total amount owed by households earning $30,000
or less a year has grown 247%, to $691 billion, according to the most
recent Federal Reserve data available.

Let’s break it down:

Some economists
applaud how the spread of credit to the tougher parts of town has
raised home- and auto-ownership rates.

I think this is supposed to be shameful—those evil economists think it’s good for poor people to have stuff. I like the word "some" implying that most economists are not applauding. I also like limiting the applauders to economists as if no one else thinks this is a good idea. I can think of one other group that applauds that the authors forgot to interview: the people who are able to buy cars and houses and TVs they couldn’t have bought ten years ago when credit was scarcer.

But others warn that in the long
run the development could slow upward mobility. Wages for the working
poor have been stagnant for three decades.

How does having cars and houses slow upward mobility? It would seem to be a sign of upward mobility. Unless you lose them car and house because you can’t make the payments. How often does that happen? The article doesn’t answer that question. It throws in the stagnant wage point just for spice. The implication is that all these loans are the reason for the stagnating wages of the working poor. Or that the poor have enough to worry about. Or that the poor will never be able to pay off their increasing debt. How could they? Their wages are stagnant. It’s actually a non-sequitur. The new access to credit for the poor doesn’t go back three decades. It’s more recent.

Meanwhile, their spending
has consistently and significantly exceeded their income since the
mid-1980s. They are making up the difference by borrowing more.

The first sentence is apparently true. The most common explanations are that we don’t count income well and that we often don’t include government transfer payments when evaluating standard of living. But here’s the best line:

From
1989 through 2004, the total amount owed by households earning $30,000
or less a year has grown 247%, to $691 billion, according to the most
recent Federal Reserve data available.

Spectacular, no? A totally meaningless number. What it tells you is that poor people have more access to credit. Here are some numbers from the same Federal Reserve data that the Business Week article didn’t include:

From Table 1 of the Fed data:

Real Median Family Income (2004 dollars) for the Bottom 40% of the Income Distribution

                               1989           2004           Increase

Bottom 20%              $9,200      $11,100        21%

Next quintile            $21,400    $25,700        20%

So for the data we have (and this is the whole time period the Federal Reserve reports on the web), incomes of the bottom 40% have grown over the most recent 15 year period we have data on.

From Table 3 of the Fed data:

                                Real Family Net Worth (2004 dollars)

                                1989                         2004
                      Median       Mean         Median    Mean

Bottom 20%   $2,600    $36,200      $7,500    $72,600

Next 20%       $35,300  $96,400     $33,700  $121,500

So median net worth has tripled (from albeit a very low number) for the lowest income Americans. For the next quintile, the median is down slightly (4.5%) though the mean is up dramatically. For every other income group (check out the Fed data), real net worth is up dramatically.

So the whole thing can be summarized by saying that the median family in the second lowest quintile has slightly less net wealth either because they have borrowed too much money or their economic fortunes have faltered in other ways or because they are not the same people in 1989 as in 2004.

And finally, from Table 14 of the Federal Reserve data, the median ratio of debt payments to family income for those who have debt:

                                                1989              2004                                          

Less than 20                            13.7%             19.7%
20-39.9                                   16.6%             17.4%
40-59.9                                   15.3%             19.5%
60-79.9                                   17.7%             20.6%
80-89.9                                   15.2%             18.1%
90-100                                    12.0%             12.7%

So yes, indebtedness is up in America. Most of that debt is housing. So people have more debt  but they also have more assets—median net worth over that time period has gone up for every group except the second lowest quintile. So people are borrowing more but their assets are generally worth more.

But check out the last column. Except for the highest decile, the ratio of debt payments to income is between 18.1% and 20.6%. The poor don’t stand out. They’re like everyone else. They have access to credit. Why is this a bad thing?

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