Can You Support Families and Sub-Prime Lending?

Over the break I read Harvard Law Professor Elizabeth Warren’s “The Two-Income Trap” which she co-wrote with her daughter Amelia Warren Tyagi. It is a quick and easy read and, I think, an important book asking why personal bankruptcy rates are soaring to unprecedented levels. (If you are a careful reader like my wife, you will notice a hat tip to Nate Oman for “important assistance with the research work” in the acknowledgments section. Such acknowledgments have become jack-in-the-box events for me, popping up where I least expect it and confronting me with my own undistinguished career.) In their book Elizabeth and Amelia argue that the usual explanation for personal bankruptcy, superfluous consumption, is in fact a myth. Instead there are a myriad of contributing factors: the costs of a mortgage far outpacing gains in wages, healthcare costs, stay-at-home mothers moving into the workplace (because she can not bring in fresh income in an emergency) and, most important to this post, deregulation of the lending industry (Marquette National Bank of Minneapolis v. First of Omaha Service Corp) leading to usurious interest rates.

Usury is a value-laden word that no sensible industry wants to be associated with, so in polite conversation today we call it sub-prime lending. “The Two-Income Trap” argues that sub-prime lending is decimating families, freely lending money to those who can least afford to pay and pushing people with precarious finances over the precipice into bankruptcy. Free market advocates usually respond to this argument that sub-prime lenders are doing families a favor, providing much needed liquidity to people that no one else will lend to. I think there are good arguments to be made on both sides. Unfortunately many sub-prime lenders, among their other sins, make a habit of providing sub-prime loans to uneducated consumers who qualify for better rates — thus undermining other arguments as to why they are good for society. Elizabeth and Amelia, for example, cite to a study that at least 40% of those sold ruinous sub-prime mortgages at Citibank would have qualified for prime-rate loans. In an interview with, Elizabeth claims that in 2001, when standard mortgage loans were in the 6.5% range, Citibank’s average mortgage rate was 15.6%. Despite higher rates of default on the loans, sub-prime lending is an incredibly lucrative business where fees, penalties and interest pile up quickly. Lenders can earn many times the amount originally borrowed before it is payed back or written off as a result of bankruptcy.

So who ends up in bankruptcy? The biggest predictor that a person will declare bankruptcy is whether or not he has children. Young families are especially vulnerable and single mothers are at even more risk. Elizabeth and Amelia write that single mothers are “more likely than any other group to file for bankruptcy — more likely than the elderly, more likely than divorced men, more likely than minorities and more likely than people living in poor neighborhoods”.

Kids cost a lot of money and it isn’t hard for most of us to imagine where the money is going: Nike shoes, Juicy sweatsuits and Seven jeans. As it turns out, we imagine the wrong things. Familes spend less on everyday consumption than their parents did a generation a go. 22% less on clothing. 21% less on food (including meals out). 44% less on appliances. Looking at the cost of goods relative to 20 years ago can make even a skeptic a believer in globalization. Families are spending more on truly big ticket items mentioned like mortgages and tuition which become fixed costs. The problem with fixed costs is in their name — and for those living on the edge of their incomes a few missed payments can trigger a vicious spiral of fees and penalties added to the payments they already can’t cover.

Are families buying minor mansions then with their outsized mortgages? The Warrens say no. In the early 1970s the average family lived in a house that was 5.7 rooms. Today that has crept up to 6.1 rooms. I’m not sure we are getting the complete story here — a better measure would probably be square feet and luxuries such as Roman bathtubs — but I don’t have any data on this point In any case, Elizabeth and Amelia do an excellent job of making that case that overconsumption is not really at the heart of the bankruptcy epidemic.

It is easier, and comforting, to blame the victims. When families find themselves squeezed financially it is more convenient to attribute their problems on profligate spending rather than confront the possibility that there but for the grace of God go I. It also makes refusing help easier. On this front the Warrens seem to have a special venom for Senator Orrin Hatch whom they quote, referring to the financially distressed, as “run[ning] up huge bills and then expect[ing] society to pay for them” and contending that massive numbers of families filing for bankruptcy are engaged in “fraud and abuse”. Elizabeth and Amelia point out that no one knows how much fraud there is, but that the courts try very hard to prevent it. They also argue that there remains, contrary to popular belief, a massive stigma associated with bankruptcy and most people avoid it at all costs.

In sum, “The Two-Income Trap" makes a strong case that at the heart of bankrupt spending are not Gucci and Prada, but “college degrees, decent medical care and homes in good school districts”. Families are vulnerable because they make long-term commitments to houses and educations.

If Elizabeth and Amelia are right, then it seems we need to reexamine our posture towards a system in which families are particularly vulnerable. One of the easiest and most effective places to start is to promote tighter regulation of the sub-prime lending industry. It doesn’t seem unreasonable to me to require lenders to do much, much more to educate consumers before extending credit. Credit card companies, for example, could make the most important terms of the cards known to consumer — let people know that if they miss a payment on their 7% card the rate automatically increases to 23%. I’m not arguing against sub-prime lending per se — I believe it can be a useful tool, but especially when it comes to money matters, knowledge is power and it wouldn’t hurt to even the playing field. Families will be better off for it.


  1. Very interesting, Mat. I have had thoughts about reading that book. A few follow-up questions, if I may:

    1. In the one brief encounter I had about the book, Elizabeth mentioned that the “Two-Income Trap,” or two primary wage earners in one household, leads to an increase in bankruptcy because, perhaps ironically, having two incomes essentially doubles the probability of a primary wage earner losing his or her job and that a loss of 1/2 of a families income has the same serious effects as losing all income. I think her point was that having two incomes and living at the level of those two incomes gives a false sense of security. How much of the book explores this? How does this interplay with her conclusions about single mothers being most vulnerable to bankruptcy?

    2. It seems odd to me that home mortgages would contribute significantly to bankruptcy because a mortgage is a secured debt. Do bankruptcies result from high mortgage payments because the family chooses bankruptcy in part as a strategy to keep its home?

    3. Part of the problem with educating borrowers about lending practices is that borrowing is very complicated. I’m not sure I have the best grasp of the terms of my outstanding loans, and I have undertook significant efforts to do so. However, I believe that I mitigated this ignorance by trying to take advantage of competitive bidders in the marketplace. Why do you think it is the case that people are over-paying for mortgages, etc. when they could submit their applications to the market in hopes of exposing outliers charging above-market rates?

  2. Thanks Matthew for reveiwing the book! I have wanted to read it for some time now. I admit that my expectations of the book were somewhat different than the way that you characterized it. Is the book really about how single mom’s can’t afford mortgage payments?

  3. My wife related several interesting points made in the book “Affluenza” by John De Graaf and others. Some of the things related to me were, the average 3 car garage in today’s houses are the same size as the average house in the 50’s.

    I don’t know about the size of families, but I reckon they are the same size if not smaller today than they were then.

    Another interesting note is that if we chose to live a lifestyle congruent with the 50’s we could get by by working 20-30 hours a week rather than the 40+ two income families.

    Some of this is because of our wants rather than needs, the use of credit to buy things beyond our means then working like dogs to play catch up. Some of this is very legitimate, education is more important now than it was in the 50’s but with those issues asside it seems clear we could work less and reap just as much, but it would be a sacrifice.

  4. Marko,

    The book argues that people are working two jobs in effect because they have to as they compete with others for the houses in good school districts etc. She isn’t saying that many people aren’t living on the edge of their incomes, but rather that they are doing so in an attempt to obtain things we usually see as being “worth it” such as good homes, neighborhoods and education. The mother-daughter duo actually make the point that if people were spending their money on superfluous things that would provide them with a cushion in hard financial times–they could simply cut back on the lattes and expensive vacations.

    You are correct in your understanding that she believes two incomes give people a false sense of security because fixed payment obligations usually require more than a single income can handle. I think it is useful to remember that the Warrens are not writing about two-income lawyer families–but rather two working class incomes. He makes $40K a year and she makes $35.

    In your second paragraph I take it that you are suggesting that a family would rarely have to declare bankruptcy due to their mortgage because they could always sell their house and make good on their debt. I’m not sure this is really the case–since I’m closing on a home this month I can tell you first hand that mortgages for 104% of a house can be had. Lenders are assuming that houses will continue to appreciate. In addition, the fact remains, secured or not, you must make your payments every month and those payments tend to eat up a large portion of your income leaving less money to service other costs. Suppose that you make your mortgage payment but can’t cover your credit card bill–the sub-prime rate on the card then kicks in, the fees and penalties start to pile up and in short order you are behind on your bills. The solution? A second mortgage or a home equity line of credit–a bad rates. You aren’t a very sophisticated consumer and you want to do the right thing and pay back your creditors so you take out the home equity loan–you know have no equity remaining in your home and the asset that had you living on the edge of your income in the first place is at risk. Why did you fall behind on your bills in the first place? You were only on the edge of your income before, what pushed you over? Wife lost her job? Illness? If you don’t resolve that in time you lose your home any way. It may be secured, but it seems to me that it still contributes to your bankruptcy.

    Why are people overpaying for morgages and other types of credit? Because they are stupid and get taken advantage of. Because they are targets of predatory lending. Because they assume that the market will be efficient. There are lots of reasons. Some people will argue that if you are too dumb or lazy to shop around for the best rate you deserve what you get. But since almost all of us can agree that lending is a complicated business and most of us don’t have the tools necessary to analyze whether we are getting a good deal or not, maybe more regulation is in order. One example–I’ve been shopping for a mortgage the last little while. As you know, my wife and I are both Harvard educated lawyers. We looked at different mortgages from several different institutions. We found it very hard to compare the mortgages because of the different ways that different companies referred to various fees. One company showed charges that another did not. When we made inquiries we found that one was more agressive in accounting for the fees than the other which apparently had a penchant for hidden fees. It isn’t as simple as looking at the quoted rate on a 30 year fixed or a 7-year ARM. There are, of course, instances when it might be that simple and people just didn’t shop around enough–I still think they ought to have a modicum of protection. It is a fact that minorities are targeted for inferior credit products–that strikes me as wrong.

  5. Taylor,

    The book is about why bankruptcy rates are growing despite parents working more and longer hours. It challenges the idea that simple overconsumption is to blame and suggests that changes in family dynamics, the workplace and the marketplace are more likely culprits. It asks whether, if these changes are at the root of the problem, if we shouldn’t rexamine our attitudes and policies towards them. You could read it in a few hours–I recommend that you do.

    Understand that I’m not convinced about everything the book has to say. The voucher system they propose for schools, for example, strikes me as unworkable and probably ineffective in any case. But it is well worth the time for anyone who wants to begin thinking about the problems facing families (two-parent and single-parent) today.


    I’ll read Affluenza if you will read The Two Income Trap. I think Elizabeth and Amelia do a lot to challenge the notion that overconsumption of designer clothes etc is to blame for rising bankruptcy rates. They cite a lot of statistics (some of which are in my original post) suggesting that inflation-adjusted spending is actually less on the usual suspects. Instead they place the blame on competition for things that we tend to value highly in our church, things for which we have been told borrowing may be appropriate: housing, education, health care. It may be that we are assuming inappropriate levels of debt for those things–but it may also be that we can mitigate the costs of those things or the effects of the debt necessary to obtain those things if we reexamine some of our policies. Since economists are always basing their assumptions on perfect information, for example, it seems only fair that we do our best to ensure that all parties to a lending transaction have the best information we can provide.

  6. Your explanation of how a high mortgage contributes to bankruptcy makes sense to me. Part of the problem, as you explain, has to do with eating away at the equity portion of the asset by folding in consumer debt. This doesn’t strike me as a necessarily bad thing because, in essence, equity is a form of savings, although illiquid, that permits individuals to float payments and debt in a crunch.

    I don’t necessarily dispute or disagree with the books conclusions as you describe them, but I do wonder how thoroughly they examined the data, if only out of curiosity. I am also curious about proposed responses to the problem. Regarding the former, although food and clothing expenses may have gone down, how much of our fixed costs are related to other goods such as electronics or cars. These are arguably less noble expenditures than education.

    In terms of proposed solutions, I am skeptical that disclosure-based regulation would be effective for the reasons we discuss. What about incentivizing savings or seeking to mitigate the disparity in education from neighborhood to neighborhood? I also understand that class action lawsuits are out there seeking to punish usurious lenders. That may be a more effective monitor of bad lending procedures. Then again, maybe we should just accept that people are stupid.

  7. Marko,

    I agree that using equity in a home to pay down consumer debt isn’t always a bad thing, but I would guess that it is usually a bad thing. Unless you can be sure that your situation has changed and you can regain solid financial footing, you are better off defaulting on your credit cards than paying them down with the owned-portion of your home only to default on your mortgage a few months later. New credit card offers will come in the mail the week after you declare bankruptcy and you can still have a piece of your house. Is this an abuse of the system? I’m not sure–in general I feel like we ought to pay our debts if we are able. On the other hand, I have a hard time sympathizing with credit card companies who can analyze the risk profiles of their customers and charge rates that will assure them a neat profit after taking into account the default rate of people with similar risk profiles. These sophisticated lenders chose to be in this business–they need to shoulder the risks of this business (to paraphrase the Godfather II) rather than appealing to Congress for further protections. Of course there is a real possibility that an outrageous percentage of borrowers are using the system in bad faith–I haven’t seen statistics supporting this view, but I haven’t looked very hard either.

  8. Some ramblings:

    Marko’s suggestions for solutions sound desirable but seem unworkable to me, unfortunately. I wish there were an answer.

    Mat, I guess something that hasn’t been discussed in this context is how many homeowners file for personal bankruptcy. Mortgages seem to me to be only for those who first can make their down payment — how many people in the bankruptcy zone actually own homes to begin with? Once mortgages are taken out of the picture, consumer debt again resurfaces as a major factor, I would think.

    Interesting that the Church’s financial advice speaks primarily to consumer debt issues rather than interest rates or the other issues you’ve raised.

  9. Steve,

    In today’s mortgage climate you can put down as little as 5% without too much trouble–but of course you will be saddled with a higher rate. That is possibly one of the reasons more people are declaring bankruptcy–credit is so much easier to have. If they can’t get it at higher rates they may not be able to get it at all–and thus they have no chance at financing a house in a good school district etc. On the other hand, it seems that abuses among lenders are common, especially among the poor and uneducated and according to the Warrens, they are often abusing people’s vulnerabilities by lending them money at higher rates than they would otherwise qualify for. If we expect consumers to be responsible, shouldn’t we call for the same from lenders?

    I’m intrigued as to why the church focuses on consumer debt. Is it because our leaders buy into what the Warrens label the overconsumption myth? Or is it because that it is a simple place for people to start? I’m not sure.

  10. “Once mortgages are taken out of the picture, consumer debt again resurfaces as a major factor, I would think.”

    I don’t think so, Steve, at least not necessarily–it may be a regional thing, but here in Boston, many people making a middle-class or almost-middle-class income pay nearly half of their take-home wages in rent. I visit teach someone who is chronically in debt and desperate, and she is *not* a lavish consumer. However, when your wages are 2400/mo, and your rent is 1800, there’s no amount of cutting back on “luxuries” that is going to make it work. I think this is a pretty common dilemma for people making just a little too much to qualify for subsidized housing. Maybe it looks different at 50 or 60K, but probably not a lot, at least not in major metro areas.

  11. “In today’s mortgage climate you can put down as little as 5% without too much trouble–but of course you will be saddled with a higher rate.”

    Is this right? My understanding is that if I apply for an 80k mortgage or a 100k mortgage my rate will be the same based on my credit score etc. and so long as I qualify (income/debt ratio). I thought the reasons a <20% downpayment raises costs and risks are that 1) you have to pay mortgage insurance and 2) you have less equity initially. In other words I think it is your credit (not your percent of equity ownership in the property) that affects your interest rate. Similarly if I qualify to borrow up to 400k for a house and instead buy only a 300k house I don't think my rate will be any better.

  12. A well deserved a special venom for Senator Orrin Hatch

    The really interesting thing is the overhang you get with minimal equity in homes (5% or less down is easy) and people buying homes in the best school districts they can find.

    I’ve been watching this as people try to get us to move from Plano. In Plano, Texas, you can get some of the best school districts in the country (kids routinely graduate with two years of AP physics, for example, and 25-30 merit scholars per high school is normal), a very nice 2400 square foot house will run you about $150k to $170k and bankruptcy rates are low. When a family is earning 200K to 300K a year and paying 14K for housing, they have a lot of room in their budget. J.C. Penny did an interesting analysis of the situation.

    On the other hand, in places we’ve been asked to move, the same houses (3cm granite, tile and wood floors, etc.) run $450k or more, the people are making less and they are spending 60% or better of their income on housing. Win had friends who live in expensive homes without furniture.

    But wasn’t it Isaiah who said “You have offended God by refusing to encourage Usury and by grinding the face of the rich?” I’m certain that Hatch will find Isaiah glad to see him, after all, how can heaven resist a friend of the sub-prime lenders?

    Usually 5% down indicates a higher risk of default, which results in higher rates.

  13. I don’t know, I see a lot of superfluous consumption. If someone these days is using a credit card for credit rather than for convenience (or to earn coupons) then they lack patience and are likely uniformed.

    Our society is focused on instant gratification, and there are financial instruments that enable that. I think that high schools and colleges should require courses in personal finance. People seem to not know or not care what they are getting into.

    If a house in the best neighborhood will put you on the brink of bankruptcy if things go wrong for a month or two, then you are putting your family at risk.

    Marko’s comment about the risks of two-incomes is insightful. If your fixed obligations each month are greater than either of your incomes then you are assuming a greater risk. There is nothing wrong with settling for less right now in order to responsibly provide for your family and your future.

  14. While I am at it, nobody should go bankrupt because of their children’s educational expenses. Make them pay for them themselves, they can take out loans without using their parents as co-signers. The terms of educational loans are relatively lax. Students going to even the most expensive of universities can pay for it on their own if their parents can’t afford to help them.

  15. Julie in Austin says:


    It blows my mind that someone in that situation wouldn’t up and move. She could have a luxury apartment here in Austin for 700$/month, with maybe a 10-20% pay reduction. What is your sense of this person and others like her–why don’t they move somewhere with reasonable housing costs?

  16. From my one personal experience (and since it was a first-time home purchase maybe I was in a different category), my interest rate didn’t change regardless of my down payment percentage. (Incidentally, there is no change in payment default risk but there is increased risk of under-collaterization in the case of foresclosure.) Unless someone else here is an expert the only way to settle this important point is to turn to the source of all knowledge (google) and get a bunch of free mortgage quotes. Uh, I’ll get right on that.

    Mat’s point on this topic originally was only to emphasize that it’s easy to get into a house without a lot of cash for a downpayment–I agree.

  17. Julie, I think she just doesn’t know that things are different elsewhere–she has only been into Boston a dozen times or so in her whole life; she hasn’t had many opportunities for education or travel. Her whole family is here, too, so there’s a pretty powerful emotional inertia, as well as the inertia that comes from not having any sense of other possibilities.

  18. I read this book about a year ago and also thought it was very interesting. It was nice to see something that challenged the conventional wisdom about bankruptcy. This book should be far more widely read and not dimissed simply because it does not blame overconsumption for increasing bankruptcies.


    I think less expensive areas have greater than 10-20 percent lower wages. When my husband was a practicing attorney (private practice), we were making over 50 percent less than we would have on the East Coast, and we were very lucky to get that.

  19. If you have good credit and low debt then getting even a 0% down mortgage at a reasonable interest rate is fairly easy. If you take advantage of various government incentives for first time home buyers you can really do well. I went to refinance my own home, and because I managed to get in without mortgage insurance payments (they covered it) it just wasn’t worth it in the short term. (i.e. I’d be locked in for a few years so I’d be better off saving the extra up front payment and paying my current rates for a few more years and then paying off a big chunk of the mortgage when I can)

    Having said that though, despite a lot of inflation, home prices in Utah are very cheap relative to many places. I honestly don’t know how people in California live there for instance.

    My one big regret is that I didn’t buy a house 10 years earlier. It really would have been wise.

    Regarding debt, there are reasons to go into debt. I’m paying off a stair climber for instance which I put on a credit card. I’ll pay it off in 4 – 5 months, but even at the higher rates it isn’t too bad. Further you can move funds between cards at 0% interest. It is noted by your credit rating though, so you have to be cautious about doing it. (Paying off credit with credit is something they immediately take note of)

    Regarding bankruptcy though, I don’t know. I certainly have seen people in my ward with unexpected expenses or loss of jobs struggle with mortgages or other fixed expenses. However when single, I saw a lot of people who simply didn’t budget, didn’t pay bills on time, and basically mangled their finances. That seemed a lot more common than the unexpected that occurs in families. I suspect the difference is that families, as was mentioned, have those fixed non-discretionary funds. Further there is responsibility and expectations within a family whereas singles with no kids simply have a great deal of flexibility. It’s not hard to live on $6 an hour if you *really* need to if you are single. It’s not really an option if you have kids, without a lot of problems.

  20. BTW – something that really bugs me are all the mortgage companies that advertise unrealistic interest rates. (i.e. 4%) I don’t know if that is common outside of Utah, but it is here. However those kinds of mortages basically take forever to pay off and are oriented towards special situations. (i.e. the self-employed with irregular incomes) They typically require a lot of discipline to pay much more than the minimum payment and come with a lot of strings the average person doesn’t know about.

    I suspect most brokers don’t actually sell those mortgages – its a bait and switch tactic. But I can see some idiots getting those kinds of loans and ending up in trouble.

  21. Mat,

    I’ll admit that I haven’t read the book, but I’ve heard all the buzz it has created.

    I have to admit that I’m skeptical of her claim that consumption doesn’t bear some of the blame. The only stat you mentioned in your post related to the number of bedrooms in a house. However, in most metropolitan areas, when I drive through the suburban sprawl from the older suburbs to the newer exurbs the houses dramatically increase in size (though interestingly this didn’t seem to be the case in the tri-state area or Boston, which is the area Liz Warren would be familiar with).

    Did she talk about the purchases that in my personal experience get people into trouble these days like boats, waverunners, four-wheelers, snowmobiles and the ever-larger trucks and trailers it takes to haul them?

    There is no question that home prices, rents and educational expenses have increased much faster than wages or inflation in the last generation, especially in certain areas of the country (such as, interestingly, the northeast where you are not truly an elite if you can’t send your kids to private schools).

    But would a more robust disclosure regime governing lenders really do much to solve these problems? I just keep wondering how schools can keep raising tution year after year at rates 4-5% above inflation and yet we keep paying. Ditto for housing costs in desirable areas. It seems to me that these issues are more collective action problems than anything to do with disclosure.

  22. Clark,

    Elizabeth and Amelia repeatedly insist that readers change their focus from anecdote to statistics. It isn’t single people w/ no dependents, for example, who are most at risk for bankruptcy, but rather families. Singles typically have more discretionary income (no houses, still in college etc.) which provides a cushion should they fall on bad times. Would it be better if they saved $500 a month instead of blowing it on fun? Probably. But the flip side is that if they run into trouble, they have $500 they can immediately cut from their expenses. Single mothers with two children rarely have such a wide margin for error.

    The Warrens repeatedly remind the reader that they have completed the biggest study on bankruptcy ever done. You might believe that they mine the data selectively–but it’s hard to argue with a stat that shows that it isn’t singles living the high life who are declaring bankruptcy. Once you accept the fact that this is hurting families more than any other group it is easier to listen to what they have to say. Once you warm to the idea that simple overconsumption may not lie at the heart of family bankruptcy–you begin to ask whether there isn’t a way to improve the system rather than faulting those who are affected.

  23. Jared,

    I think you are focusing on the wrong type of people when you mention boats, waverunners etc. I could be wrong, but I just don’t see that many working-class people who own boats. They don’t own second homes either–and if they did they could sell them when they ran into financial difficulties and avoid bankruptcy. The book points out that since 1970 there has been only a .8% increase in the number of people who own second homes in America. I can’t recall other stats off the top of my head–I’ll take a look tonight and see what else she wrote.

    One thing that I do find interesting is that The Two-Income Trap seems to look to the 70s when making consumption comparisions while other people keep referring to the 50s. It could be that both groups are cherry-picking the decade that best supports their case, although I have no real insight into why Elizabeth and Amelia chose to focus on the 70s.

    You are Marko seem to have a healthy skepticism towards my suggestion that more disclosure by lenders of onerous terms is needed. Perhaps you are right–when people are desperate or simply careless they may not pay attention to such things. Would it be preferable to do what many people are calling for–require classes in schools teaching basic principles of personal finance? It would have to be at the high school level since you would want to target everyone, not just those who go on to college. Since virtually all of us will use credit cards, take out a mortgage and make investments of one kind or another it seems that teaching those kinds of life skills would be useful. Perhaps drop largely useless language courses from the high school curriculum and substitute this in its place?

  24. This OUTRAGEOUS bit from today’s Salt Lake Tribune Rolly (Wells has retired) column:

    While hundreds of low-income residents stood in line at Rowland Hall-St. Mark’s School two days before Christmas for a free turkey and box of food provided by the Crossroads Urban Center, a representative of an instant-cash outfit was handing out fliers for his service.
    The flier did not mention the more than 500-percent interest rates charged for the cash-in-advance service, but Crossroads Urban Center folks know about it and had school administrators throw the guy off the premises. He protested that he was trying to help needy people buy Christmas presents.
    The flier was for Utah Title Loans and Payday Advance and the contact name was Antonio Vega. It is one of several companies that provide instant cash in return for a post-dated check that can be cashed after payday.

    DISCLOSURE ANYONE? Or should we be thanking this man for providing much needed liquidity to low-income parents at Christmas?

  25. Jared,

    One other point I thought you might find amusing. Also over the break I read “The Smartest Guys in the Room” which chronicals the downfall of Enron. A great read. Ken Lay, despite amassing hundreds of millions in compensation during his tenure at Enron was borrowing money from the company in its final years because he had a severe liquidity crisis. He was over-leveraged on several properties in Aspen, his Houston apartment and who knows what else. That’s overconsumption. (Of course for some reason he didn’t end up paying sub-prime rates for his loans–although you could argue that he was an excellent credit risk so he shouldn’t have had to.)

  26. Mat, I agree that payroll advance services are outrageous. My favorite example is the similar service offered by the second-tier casinos off the strip in Vegas, where you can cash your paycheck in the deepest depths of the casino maze right next to poster-sized pictures of 4 or 5 lucky winners who turned their measly $1,200 paychecks into $25,000. Unfortunately, I don’t think it is a disclosure problem in these situations. The transaction is relatively straightforward — I give you $100 today, you give me $115 next Friday. My guess is that these people know that they are paying extra-ordinarily high interest rates, but have serious trouble in discounting the value of cash today versus cash next week.

  27. Julie, Kris, Amira,

    Attorneys I’ve spoken to outside of the Eastern corridor generally report that the salary is less, but the difference in the cost of living is greater than the difference in the salary.

    Here are a few salary charts:

    New York: (majority of firms start at $125,000).

    Austin: (many firms start in the $100-$110 range)

    Also, there are a lot more $125K jobs in New York than there are $110K jobs in Austin.

  28. Kaimi — Using attorneys’ salaries is probably misleading, and using starting salaries for attorneys is almost certainly misleading. New York partners probably make 8-10x more money than a partner in Austin. Senior associates probably make double or triple the pay of their smaller market counterparts, too.

    I think the obvious answer to Julie’s relocation question has been overlooked — that individual hasn’t moved because she would have to move from New England to somewhere like Austin.:)

  29. “Perhaps drop **largely useless** language courses from the high school curriculum and substitute this in its place?”

    Them’s fightin’ words, Mat–I won’t hijack your thread, but I’m registering a protest. We can talk about it later.

  30. 125K? Kaimi, I make a lot more than that.

  31. Kiami,

    I thought Cravath was the greatest firm ever–apparently you are trading prestige for money:0 At my firm we all started at half a mill–and got amazing stock options to boot.


    It’s a conversation I would love to have. I took three years of German in high school and taught Russian for two in a public high school. No doubt I was a poor teacher (hence the law job), but you’re going to have to work hard to convince me.

  32. I’m not against a more robust disclosure regime for lenders. I would also like better disclosure of interest rates paid by providers of CDs and savings accounts. I’m a decently educated fellow and I can’t figure out exactly how my bank calculates how much it pays me each month.

    My only point was that I’m not sure how much this would really alleviate the problems the Warrens apparently focus most of their attention on: housing and education costs.

  33. Jared,

    You last point is a very good one–I focused on sub-prime lending because it is a much easier problem to tackle IMO. As I’ve stated above, I don’t have a lot of faith in the Warrens proposed, partial solutions to housing and education costs–i.e. voucher systems. But I’m glad they have engaged the conversation.

  34. John Mansfield says:

    In 2004, Massachusetts’ population declined by 3,852 people or 1.1%. It was the only state to lose population.

    The emphasis on good schools and nice neighborhoods is interesting. There seems to be a sense that life on the poorer side of the tracks is completely unbearable.

  35. John Mansfield says:

    Correction to the above figures. I was repeating an AP article, but 3,852 is not 1.1% of Massachusetts’ population. Going to the Census Bureau release from Dec. 22 shows that the state lost a net of 3,852 people and that that is 0.1% of the population.

  36. Nate Oman says:

    At the outset, let me say that I really like Elizabeth Warren. I disagree with her about quite a bit of stuff, but she was a good boss and has been very generous to me.

    Let me suggest, however, that the sub-prime lending story that she tells is a bit of red herring that is largely dragged out for rhetorical effect.

    The real heart of her argument is that increased levels of bankruptcy are the result of rising fixed costs in things like housing, transportion, health care, etc. (I would point out that many of these rising fixed costs are the result of various forms of government regulation, but let’s put that aside for now.) In other words, the middle class is the victim of an exogenous price increase that has sent more and more of them into the banktruptcy courts. This is what drives her critque of what she calls the over-consumption myth.

    If this story is correct, what role do subprime lenders play in the rise in bankruptcies? My answer is “Not much.” The thriving subprime market illustrates that lenders are good at identifying risk and pricing it. This means that the costs in terms of higher interest rates of rising bankruptcy filings are not getting passed on to the “rest of us.” However, if Warren is right, the demand for subprime lending is a function of exogenous price increases. At best, subprime lending leads to bankruptcy later rather than bankruptcy sooner. It does not, however, have a huge effect on the rate of filings per se. (It also probably has distributibe effects within the lenders’ market. For example, if sub prime mortgages are becoming a final stop on the slide into the banktruptcy court, then it may be that these lenders rather than more traditional banks are reaping the benefits of secured status in banktrupcty. However, since lots of mainline banks are in the subprime business these effects are probably pretty small.)

    I have braught this point up with Warren, and I think to a certain extent she agrees with me, although I don’t want to overstate this. She does see subprime lending as a cause of increased banktuptcys. She thinks it is a kind of fuel on the fire, even if it is not a primary causal agent. However, she has also told me that it is “It’s fun to have a bad guy.”

    If you want an abreviated version of Warren’s argument, check her paper “The Overconsumption Myth” which is available her:

    Also, if you are interested in a detailed analysis of the rise in banktruptcies written by Warren’s chief academic antagonist on this point, read:

    Todd Zywicki, “Why So Many Banktruptcies and What to Do About It” available at

    Zywicki’s argument is complicated but the basic gist of it is that the model’s of Warren and others explain the changes in banktruptcy filings that are tied to business cycles but do not explain wholesale increase in the number of banktruptices regardless of the business cylce. Rather, he says, there has been a change in the institution of banktruptcy itself that has significantly lowered the transaction costs of the process, which ought to be amended to take into account these changes.

    This is not a debate that I have an opinion on yet, although as I said, I DO have problems with Warren’s subprime villian story.

  37. Nate – Very nice analysis. A couple of comments/questions.

    I’m skeptical about whether the thriving subprime lending market is an indication of lenders ability to identify and price risk. Doesn’t the fact that, as Warren and Mat point out, these loans are going out to the most vulnerable borrowers at prices above what they could otherwise get undercut this efficient market conclusion?

    I wonder whether the introduction of subprime lending has a distributive effect beyond simply among lenders. As I understand it, a bankruptcy court can cancel a contractual, unsecured claim, such as credit card debt, but is constitutionally prohibited from eliminating property rights such as mortgages or other secured claims. Taking out a home equity line at subprime rates to pay off credit cards could distribute assets away from the debtor in this case.

    I think I would buy into Warren’s argument that the demand for subprime lending is a function of exogenous price increases if she established that, with the existence of subprime lending, borrowers who otherwise would have to settle for living in a lower-tiered school district or send their children to a less expensive college are now buying-up through assuming higher rate loans. If you assume that, as it is with a corporation, the more debt that is assumed, the higher the interest rate, putting a cap on interest rates would cap leverage in households and force families to “settle” for lower-rated education. Similarly, removing a cap will lead to an increase in household leverage and a corresponding increase in default. Of course, this introduces the normative question of whether it is better to remove the cap and let some families go bankrupt paying for a better education.

  38. Nate Oman says:


    I largely agree with your third point. I think, however, that your example looks at the wrong slice of the middle class. By and large the upper middle class families that worry about sending their kids to expensive colleges (Swathmore or Harvard? What to do?) are not the ones filing for banktruptcy. Rather it is those at the bottom of the middle class.

    I have no brief for subprime lending and I think that a lot of their tactics are slimy in the extreme. My question would be whether or not they are actually successful in getting people to borrow money at high interest rates when they have other options. It is important to remember, as well, that many non-subprime loans are not perfect substitutes for subprime loans. Subprime lending is frequently about immediate liquidity in the most literal sense: people need money now, today, immediately. Hence, the interest rate also contains an extra fee that borrowers in essence pay to the lender to forego more time consuming inquiries.

    I have never heard the argument that mortgages enjoy a special status in bankruptcy that contractual rights do not. What is your source on this? It is worth noting that in extraordinary circumstances, mortages and other secured claims actually CAN be stripped down in bankruptcy through subrogation, etc. Moving debt from secured to unsecured immediately before a Chapter 7 bankruptcy is unlikely to effect the debtor’s status post bankruptcy since the code requires that all assets be liquidated to pay the debts of the estate. The biggest exception to this rule are assets that fall within the homestead exemption that needn’t be liquidated in Chapter 7. The size of this exemption varies from state to state. Some states — Florida and Texas for example — have incredibly generous homestead exemptions that protect one’s entire home, regardless of value, as well as other real estate assets. Other states — Delaware for example — have extremely stingy homestead exemptions that basically protect your personal effects and a couple of thousand dollars of equity in your home. Since for most personal bankruptcies the single largest asset is the family house, these homestead exemptions matter a great deal. If I own my house (or have significant equity) which I then mortage to a subprime lender prior to bankruptcy and I live in Texas, then I am screwed. I will lose my house in bankruptcy to the subprime, even though I would have kept it in the absence of the loan. On the other hand, if the same transaction occurs in Delaware, I am also screwed, but I would have been screwed anyway, since Delaware wouldn’t have let me hold on to much of the value of my house even in the absence of the mortgage.

    (Of course, those who file for bankruptcy can also elect to employ the federal homestead exemption for purposes of bankruptcy only. It is not especially generous, however. Nicer than Delaware but not much.)

  39. Nate Oman says:

    I should have said that I have never heard that mortgages enjoy a special CONSTITUTIONAL status in bankruptcy. Obviously, they have a special status in bankruptcy but that is largely a result of the bankruptcy code’s special treatment of secured claims.

  40. Nate — Shame on you for asking me to source something I write. Can I bill you for the time?

    A google search revealed the following case — In re Gary Thompson, US Bank. Ct. (1988), which has the following quote:

    However, mortgages, conditional sales contracts or purchase-money security interests, and statutory security interests are “property” encompassed by the Fifth Amendment protections. Louisville Joint Stock Land Bank v. Radford, 295 U.S. 555, 55 S. Ct. 854, 79 L. Ed. 1593 (1935); Holt v. Henley, 232 U.S. 637, 34 S. Ct. 459, 58 L. Ed. 767 (1914); Armstrong v. United States, 364 U.S. 40, 80 S. Ct. 1563, 4 L. Ed. 2d 1554 (1960); 11 U.S.C. § 545.

    I can’t really say much more because I am largely ignorant regarding bankruptcy law, but (at the risk of merely repeating myself) I remember from my bankruptcy class that the trustee or the court has authority disallow any contractual claim, but with respect to secured claims, can only impose an automatic stay to delay seizure by a claimholder; otherwise, it risks be a takings clause violation.

  41. Nate,

    You are right that Warren doesn’t claim that sub-prime lending is the primary reason that people go into bankruptcy, but rather just hurries them along. As I pointed out above, like Warren I think it is easier to talk about sub-prime lending than trying to find solutions that will most help the middle-class cope with rising housing, healthcare etc.

    I disagree, however, with your supposition that the “thriving subprime market illustrates that lenders are good at identifying risk and pricing it”. Do you have any evidence to support this view other than the fact that the market is thriving? It seems to me that the thriving sub-prime market illustates only that lenders are good at identifying people whose desperate circumstances lead them to sign papers that they have little understanding of. The fact that sub-prime lending operations account for a disproportionate amount of profits among lenders lends this idea credence.

    I’m not an economist, but the refrain most often heard is that for markets to work efficiently, the parties need to have and understand as much information as is available. Even if you need immediate liquidity, if you knew it could be had more cheaply across the street you would take the time to cross over.

    Perhaps we need more sub-prime lending in order to create a more fiercly competive market. I suspect that with the entry of the countries most reputable institutions into this formerly unsavory market we will see that. But at the end of the day the enormous asymetries in information between the bargaining parties will lead to what such asymetries have always done–allow one party to take unfair advantage of the other. Ayn Rand fans will doubtless argue that it isn’t unfair if someone is willing to sign on the bottom line–but I’ve always despised Ayn Rand.

  42. I’m coming late to the discussion, but I’ll agree with Nate that sub-prime lending, while unsavory in some ways, isn’t the culprit vis-a-vis bankruptcy. That’s like saying hockey teams lose games because they pull their goalies in the last thirty seconds. They lost before they pulled their goalies, just like most who resort to subprime lending are in financial trouble before they take out loans on unfavorable terms.

    As I recall, the leading explanatory factors for personal bankruptcy are divorce, loss of employment, and serious illness (leading to loss of employment). It’s hard to argue those have changed, and they are entirely independent of banks and lending practices. [Admittedly, I haven’t read Warren’s book.]

  43. Nate Oman says:

    Matt: Yikes! You have pulled out the reductio ad Rand argument.

    “Desperate” is a way of saying “high risk.” Subprime lending is targeted by and large at the desperate not at the stupid. The desperate pay lots of money because they are high risk and because they need immediate cash. “Walking across the street” may actually have more costs than you assume if it requires delays for approval, etc. Look, I am not arguing that subprime lending is a benign institution or that those engaged in it do not take advantage of those in distress. I am simply skeptical that quasi-fraudulent practices and the ignorance of simplistic customers is what accounts for it. I think it is more likely the desperation of the customers.

    This implies, however, that it is the desperation drives the subprime lending and not vice-versa.

  44. Natte,

    I’m assuming that the product being offered across the street is essentially the same, but at a better rate. In other words, no additional delays. I suspect that the market isn’t efficient precisely because people are desperate. You may counter that the premium they are paying is a function of their desperation and the fact that they do not have time to bear the costs of a search–that is a good point. But that wasn’t the argument you were making above–you said that they are good at identifying and pricing risk. The risk of default on the loans may be much lower than the price reflected in the interest rate–but the lenders are able to extract an additional premium because they know that borrowers do not have the luxury of incurring additional search costs. A more efficient market would be one that comes closest to approximating the economists gold standard of perfect information–one in which it would cost the borrowers relatively nothing in terms of time to get that information. I think this would be fairly easy to accomplish–perhaps a requirement that the lenders list the five lowest rates on the same terms available within a geographic area (although you can probably think of an even better disclosure system–this is just my first cut). This would encourage true efficiency in the market at lenders would be forced to compete based on their ability to idenitify and price risk rather than on the relative desperation of their customers.

    Its difficult to make the case that you are innovating or adding value when you simply profit off of others’ desperation–so why should you realized outsized returns? If you are truly better at pricing risk than others–that’s a different matter.

  45. Does the book deal at all with the option of falling back on the extended family in times of need as opposed to bankruptcy? Does it report any trends? It seems that as the stigma of bankruptcy has lessened somewhat people may be more likely to declare bankruptcy than to move in with relatives while they get their financial house in order.

  46. I might also add that it is my understanding that it is the taking advantage of another’s desperation aspect of usury that makes it a sin. I’m not advocating that we do away with sub-prime lending–I agree that doing so may actually hurt people. I’m advocating making the rents charged a reflection of the risk instead of the desperation.

    random John,

    I don’t recall talk of falling back on the extended family although she may have briefly mentioned it.

  47. Just to add a question, does the book offer any insight to Utah’s high rate of bankruptcy? Is it the size of families?

  48. Despite the fear of thread jacking, I respond to Clark’s comment about bankruptcy in Utah. I understand that Utah has one of the highest rates of bankruptcy (Not cite, no statistics, just what I remember from my Chapter 11 class). Although family size did play a part, the main part had to do with low wages. Essentially it boiled down to sub standard wages to expenses and the socialization in utah. I hate to say blue collar wages at white collar mindset because many of the “blue collar” workers make way more than I do as a “professional”.

  49. Kiami,

    I thought Cravath was the greatest firm ever–apparently you are trading prestige for money:0 At my firm we all started at half a mill–and got amazing stock options to boot.


    It’s a conversation I would love to have. I took three years of German in high school and taught Russian for two in a public high school. No doubt I was a poor teacher (hence the law job), but you’re going to have to work hard to convince me.

    Posted by: Mathew | January 5, 2005 11:26 AM

    I’m impressed by any place that starts you at $500k and stock options …

  50. The books doesn’t talk about Utah directly although it is clear that whether or not you have children is the largest predictor of whether or not you will declare bankruptcy. It seems obvious that larger families would be a contributing factor.

    I have heard that there is a 3L at HLS looking at bankruptcy in Utah for his third-year paper on bankruptcy. I believe that Elizabeth Warren is his supervisor–I’ll try and contact him and see if he will say a few things, perhaps in a separate post.

  51. Oh yeah–firms try and pay associates as much as they can–they really want you to be happy. The really nice thing though is the 30 hour work week.

  52. Mat,

    I’m just curious what you were actually given and option to buy.

  53. In the DAMU, it is assumed that a large part of Utah bankruptcies is tithing. I’m not agreein’, I’m just sayin’.

  54. Oh yeah–firms try and pay associates as much as they can–they really want you to be happy. The really nice thing though is the 30 hour work week.

    Posted by: Mathew | January 6, 2005 08:28 PM

    Ok, you were joking. ;)

    (How do I know? The shortest large firm billable I’ve seen is 2400 and most of the New York firms I knew of were requiring 2700+ — but things may well have changed since I was paying attention. 2000 hours in Dallas comes to 60 hours a week in the office (to get the 40 billable hours), 50 weeks a year.)

    On the other hand, if you are at 500K, stock options and 30 hour weeks (instead of 30 hour days), you’ve got my attention.

  55. Mat wasn’t joking about the 30 hour work weeks. He just works 156 weeks a year.

  56. Nate Oman says:

    Ann: I have no idea who the DAMU are but I suspect that they are wrong on the link between tithing and bankruptcy. To my knowledge no one has actually crunched the data, but given the size of the disparity between Utah filings and the rest of the nation (appreciable but not huge), I suspect that most of the disparity disappears once you control for demography. IOW, I suspect that a young married Utahn with 2 kids has the same liklihood of filing for bankruptcy as a young married non-Utahn with 2 kids. The disparity comes from the fact that there are more young married Utahns with 2 kids than in the national average.

    As I said, this is just a hunch. Someone needs to collect and crunch the data. However, I wouldn’t go to tithing until I had some sense of whether there is even a phenomena that needs explaining once you control for demographics.

  57. Ethesis,

    I’m definitely joking. On an hourly basis big city lawyers make much less than several of my siblings who have good jobs with reasonable hours. Figure in cost of living differences (I live in NYC–they live in NH, ID, MI, upstate NY and CA) and the disparities grow even larger. I do, however, outearn my two sisters who are in school–so I guess it’s better to be a lawyer than a student–although fond memories of my care-free student days suggest otherwise.

    Apparently highly remunerative employment that requires little work does exist–but I’ve been told you need a great head of hair just to get in the front door.

  58. ….which is why those doors are closed to you, baldy.

  59. Nate Oman says:

    Matt: I don’t think that you should necessarily factor in your cost of living when figuring out your real income vis-a-vis your siblings. Living in NYC is cool, at least most of the people I have talked to who voluntarily move there rhapsodize about how much more interesting and hip it is to live in NYC than to live in say Rexburg, Idaho. Hence, I deny that living in Boise is an economic substitute for living in NYC.

    Living in NYC is simply an expensive form of consumption, so quit your whinning about the cost of living ;->

    Nate who-is-bitter-at-the-obscene-fact-that-the-NYC-associates-in-his-firm-got-a-big-non-performance-based-bonus-based-on-the-mere-fact-that-they-live-in-NYC Oman

  60. Steve,

    You also need to be tall to get into the executive suite. p.s. good luck w/ that leg extension procedure–I hear it is excruciatingly painful but you’ll get another inch at least.


    My not-so-subtle hint where I misspelled your name above has had no effect–so let me spell it out: Mat–not Matt. Thanks for the info on the NYC non-performance based bonus–I hadn’t heard firms were doing this so I’ll be watching for it.

    Obviously you have never been to Boise.

    I like your argument about consumption–but it hasn’t applied to me until fairly recently because I had an intense aversion to NYC. However I am happy to report that I have been warming up quite a bit the last few months.

  61. Nate Oman says:

    Mat: I am happy to hear about your adversion to NYC. It reflects well on your character.

  62. Me and prophet. Last time he was hear he mentioned how he had never cared for the city either.

  63. Nate: DAMU=DisAffected Mormon Underground. Snarks, I believe you called them on T&S in a thread that I just read today.

    A former BYU prof said recently that when he talked to people in his college about studies on Utah bankruptcy, they refused to even include tithing as a variable to study. That is, they just said, “No, it can’t be tithing,” and refused to include it as a variable. He ranted about it; if true, I think it’s certainly odd.

  64. Nate Oman says:

    If true, it would be odd. I would be suspicious of second-hand stories about BYU on the DAMU, however ;->…

    There is an interesting methodological problem in that it is not clear how to figure out who is or isn’t a tithe payer.

  65. Alas, I’m short, so I’m doomed.

  66. Though I’m not joking about trying to get a link from (and holding out on updating my link to bcc until I get one).

  67. If tithing is a factor, it is presumably a factor for budgeting. i.e. when applying for loans you don’t have to disclose all regular recurring payments like tithing. Thus it can appear like you have more income to dispose towards a mortgage payment than you actually do. If you aren’t a good budgeter that can get you in hot water.

  68. Tithing is like the budget for cigarettes and alcohol though.

    What is interesting is the way that Bankruptcy trustees look at it.

  69. This weekend the Salt Lake Tribune printed a series on why Utah has such a high bankruptcy rate. Among the articles relevant to the discussion here are:

    An overview:

    Cultural factors:

    Home ownership:

    The ready availability of high interest credit is discussed as one factor. However, social pressures to marry and start families and buy homes while still young, along with “keeping up with the Joneses Mormon-style” also come into play.

  70. JWL,

    I read those articles and I agree that ready credit is not the biggest factor in bankruptcies. In the next week or so we should have some fresh data on causes of Utah bankruptcies from a couple of students who have done work in the area. It will be interesting to see what they have to say.

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