Thoughts on the Fringe Economy

There generally seem to be two takes on the morality of the fringe economy. It can be seen as predatory, and something that helps keep poor people poor. Alternatively, you can take the attitude that it’s a free country, businesses on the fringe are legal, and nobody is forcing anyone to patronize them. If they’re screwing you, it’s your own damn fault.

Of course, I see both points, and suspect both are true. I can believe that many people are victimized by these industries, and at the same time, many people let themselves get ripped off because they don’t plan well, or aren’t financially savvy, or aren’t disciplined enough and loan money for things they don’t really need.

As I said in my last post, I’m amazed by the proliferation of check-cashing stores, pawnshops, dollar stores, and the like in the past few years. Honestly, fifteen years ago I thought that they would be relics by now, or at least banished to even lower-class areas than they were before. That pawnshops would be oddities to my kids, when they grow up. Instead, the opposite has happened, and they are steadily encroaching on middle-class territory. No matter which of the opinions above that you hold, this can’t be a good thing, right? Since it means that either (i) more people are getting screwed, or (ii) more people are stupid. Not a good sign for America.

One thing I don’t understand. In Shortchanged, the author states that these fringe economy businesses have huge profit margins, exacted at the cost of people who can least afford them, and therefore he proposes reviving usury laws to limit them. And I’ve heard from other sources that these businesses are wildly profitable. This might be a dumb question, but why doesn’t free market competition work to lower the margins? If, say, a rent-to-own location is making a killing by ripping off people, why doesn’t some enterprising soul open a competitor that makes a healthy profit, but not quite a killing? I understand that for the free market to work, you need consumers who are financially savvy, which might not always be the case here, but the end mathematics of rent-to-own are pretty simple: x dollars for a term of y months.

There’s a review of the book on Amazon that I would consider to be the prototypical conservative/libertarian response: (1) if people don’t like the sub-mainstream financial services, they shouldn’t use them. (2) These businesses have a right to charge high fees to recoup their expenses. (3) They employ many people in low-income areas, and so are a force for economic good. The unstated, but implicit assumption is (4) these are legitimate, honest, legal businesses, so get off their case.

Of course, you could summarize that review with “I didn’t read the book, so I will fall back on my pre-formed opinions.” In fact, Karger addresses (1), (2), and (4) in detail, and (3) is an example of the “broken window” fallacy (see http://en.wikipedia.org/wiki/Parable_of_the_broken_window for a description). As for (4), if you really believe that pawnshops et al are completely on the up-and-up, and have no need of more inspection or tighter enforcement of existing anti-fraud laws, then I don’t know what to tell you. Actually, Karger really makes a compelling case here. So much of our tax money flows through these institutions (via entitlements payouts) that we will all stand to gain if we can reduce the cut that these places take.

I have a few more thoughts here, but will break those out into separate posts.