By Paul J. Gessing

Elected officials who use the power of government to "help" people often fail to account for the possible unintended consequences of their actions. Even the noblest of intentions can unintentionally hurt those it's meant to aid. Such is the case with New Mexico's new law imposing a price control on the interest rate that lenders are allowed to charge on a short-term loan. Proponents claim it will make a "real difference" for people, but the only difference it'll make is in the ability for people to access credit.

On January 1, 2023, H.B. 132 "Interest Rates for Certain Loans" became law and immediately prohibited lenders from imposing an annual percentage rate (APR) that exceeds 36 percent. When the bill was before the Legislature in the 2022 budget session, the Rio Grande Foundation led a coalition letter highlighting the potential consequences it would have on lower-income borrowers across New Mexico. We noted that other states with a price ceiling on interest rates offer a cautionary case study on the perils of such a policy. These cautions went ignored.

Now, a new research study examining Illinois' 36 percent "all-in" annual interest rate cap on consumer loans confirms what we predicted: caps restrict access to loans and harms consumers with lower incomes and credit scores.

Professors at Mississippi College and Mississippi State University, in partnership with the Federal Reserve, found that a hard 36% cap significantly decreased the availability of small-dollar credit in Illinois and worsened the self-reported financial well-being of many consumers. Their data confirm that following the cap loans overall decreased by 8 percent but are down a whopping 44 percent among subprime borrowers. That means people who are most vulnerable to unexpected expenses in life find themselves unable to access the credit they needed.

That's because from a lender perspective, the math simply makes it impossible to provide short-term small-dollar loans to borrowers under a 36% rate cap. Unlike those with means, "high risk" Illinoisians found they could not borrow the money they needed, and 40 percent of individuals noted "their overall financial well-being had declined" in the aftermath of the cap.

As lead author of the study reviewing Illinois' rate cap, Thomas Miller noted in front of the Senate Banking Committee in 2021, "An interest rate cap does not make loans less expensive; it makes loans less available."

Dr. Miller's research confirms that H.B 132 will have a severe impact on short-term lending here and harm working class New Mexicans as the law goes into effect.

It's an unfortunate truth that more than one-third of Americans are unable to cover an unforeseen expense of $400, a fact that is exacerbated by this period of price inflation. In these events, Americans can turn to small dollar credit products to help them handle issues as they arise, like medical expenses or car repairs.

Government-imposed price controls rarely accomplish their goals. Whether levied debit card fees, gasoline, or prescription drugs, or in this case, interest rates, setting price controls at below-market rates leads to shortages, inefficiencies, and an increase to black market activities. More people will look towards the unregulated underground market to get the products they need.

The economic outcome in Illinois – as we'll see in New Mexico – was entirely predictable. The Illinois study concludes that, "economic theory predicts that an interest-rate cap, like any price ceiling, creates shortages, destroys gains from trade, and gives rise to additional search costs."

Given the continued sting of inflation and a potential economic downturn, New Mexico lawmakers must brace for the unintended consequences that will befall lower-income New Mexicans and their credit access needs. What's happened in Illinois was a precursor to what will happen in New Mexico. Access to credit is in jeopardy as H.B. 132 takes hold.

Paul Gessing is president of New Mexico's Rio Grande Foundation. The Rio Grande Foundation is an independent, nonpartisan, tax-exempt research and educational organization dedicated to promoting prosperity for New Mexico based on principles of limited government, economic freedom and individual responsibility.