by Jacob Goldstein

A big payday loan chain is closing dozens of shops in Arizona because the state capped annual interest rates at 36 percent, the Arizona Republic reports.

That's a high rate compared to what you'd pay on, say, a mortgage. But it's low for the payday loan world, where the rates on two-week loans are often the equivalent of 300 percent per year.

"They can't stay in business for 36 percent," Robert DeYoung, a professor of finance at the University of Kansas told me this morning — at least, not without making some fundamental changes to their business.

That's largely because so many people default on payday loans that a 36 percent interest rate isn't enough for stores to turn a profit, DeYoung said.

The issue is important beyond Arizona, because Congress's big finance-overhaul bill gives federal regulators new powers over payday lenders. So we may see similar caps imposed nationwide in the coming years.

 

Payday loan shops that do stay open in Arizona will likely make three main changes, DeYoung said:

1. They'll charge an "origination fee" as a way to get some money upfront.

2. They'll extend the term of the loan, beyond a single pay period. That will allow them to collect more interest on each loan. (It will also transform the loan into something other than a true payday loan, which typically is due when you get your next paycheck.)

3. They'll require better credit and deny loans to more potential customers.

That last one is arguably most important — it basically means fewer people will get short-term, high-interest loans.

For more on payday lending: Listen to our podcast from earlier this year. (By the way, the interest rate caps DeYoung discusses in that podcast are roughly 10 times higher than the cap in Arizona — so the effects on the industry are very different.)