Is There a Constitutional Case to Be Made Against Interest-Rate Caps?

On May 2, 1895, the state legislature in New York enacted a law that said “No employee shall be required or permitted to work in a biscuit, bread or cake bakery or confectionary establishment more than 60 hours in any one week, or more than 10 hours in any one day.” It all reads as so compassionate, as legislation said to be born of good intentions tends to. Except there was more to the story.

As George Will wrote in his 2019 book The Conservative Sensibility, the law was meant to protect large, unionized bakeries from what Will described as competition from “small, family-owned, non-unionized competitors that depended on flexible work schedules.” Utica, NY bakery owner Joseph Lochner was fined $50 “for violating the limits [the New York state law] it placed on the employees of his Utica bakery.” Will went on to conclude that Lochner “and his employees had a right, absent a compelling government interest, to voluntarily contract for longer working days and weeks.” So, while the Constitution elevates the genius of states as the source of most legislation, there are some constitutionally-protected rights that we have just because we’re free to do as we wish. Live and let live.

Ultimately Lochner’s case (Lochner v. New York) went to the Supreme Court, and Lochner was the victor. In Will’s words, the New York state law amounted to “an unconstitutional ‘interference’ with the liberty of contract.” Amen to that.

The nearly 120 year old case rates discussion with the state of Illinois’ passage of the Predatory Loan Prevention Act in 2021. The latter placed a 36% interest rate ceiling on loans made to subprime borrowers in Illinois by non-bank and non-credit union financial institutions. About the legislation, it should be said up front that the law’s focus on non-bank and non-credit union institutions was superfluous. Banks generally can’t lend to those who need it, and anyone allegedly being protected by a 36% rate cap surely needs the money.

From there, readers can guess what happened: the availability of loans for subprime borrowers dried up substantially thanks to the price control. As economists J. Brandon Bolen, Gregory Elliehausen, and Thomas Miller found in their detailed study of the law’s affects, it reduced “the number of loans made to subprime borrowers by 30 percent.” Price controls always lead to shortages. Always.

It’s a reminder that price controls, while theoretically rooted in good intentions, invariably harm those they’re supposed to help. A law billed as a way to free borrowers from the long fingers of predatory lenders logically forced many of those borrowers into the hands of predatory lenders.

Still, there’s a case to be made that equally or more affective as an argument against price controls is freedom. To see why, what if the rate cap didn’t at all result in a reduction in subprime loans? If so, it would be still an infringement on our freedom, or in the words of Will “an unconstitutional ‘interference’ with the liberty of contract.”

Never forget that with lending, no one borrows money nor does anyone realistically lend money. What we borrow and lend is what money can be exchanged for, including access to labor.

Just as states aren’t empowered to limit our right to “contract,” it’s not unreasonable to say that states aren’t empowered to limit our ability to lend or borrow the goods, services, and human capital that money can be exchanged for. This is notable with regard to the Predatory Loan Prevention Act in that per Bolen, Ellihausen, and Miller, “the most common reason for obtaining a personal loan is to pay utilities, followed by debt consolidation, car payments/car repair, and rent/mortgage.”

Those going into debt are doing so attain real things, and real services from actual people. And a rate cap logically infringes on this right. It’s something to think about. The misnamed Predatory Loan Prevention Act fails in so many ways in well-documented fashion, and as Lochner v. New York reminds us, it also arguably doesn’t live up to basic constitutional law.