My Reflections on The Senate CFPB Hearing

Josh Wright —  9 September 2011

[Cross-posted at PYMNTS.COM]

Richard Cordray’s nomination hearing provided an opportunity to learn something new about the substantive policies of the new Consumer Financial Protection Bureau.  Unfortunately, that opportunity came and went without answering many of the key questions that remain concerning the impact of the CFPB’s enforcement and regulatory agenda on the availability of consumer credit, economic growth, and jobs.

The Consumer Financial Protection Bureau’s critics, including myself, [1] have expressed concerns that the CFPB— through enforcement and regulation—could harm consumers and small businesses by reducing the availability of credit.  The intellectual blueprint for the CFPB is founded on the insight, from behavioral economics, that “[m]any consumers are uninformed and irrational,” that “consumers make systematic mistakes in their choice of credit products,” and that the CFPB should play a central role in determining which and to what extent these products are used. [2] The CFPB’s recent appointment of Sendhil Mullainathan as its Assistant Director for Research confirms its commitment to the behaviorist approach to regulation of consumer credit.  Mullainathan, in work co-authored with Professor Michael S. Barr, provided the intellectual basis for the much debated “plain vanilla” provision in the original legislation and advocated a whole host of new consumer credit regulations ranging from improved disclosures to “harder” forms of paternalism.  The concern, in short, is that the CFPB is hard-wired to take a myopic view of the tried-and-true benefits of consumer credit markets and runs the risk of harming many (and especially the socially and economically disadvantaged groups in the greatest need of access to consumer credit) in the name of protecting the few.

To be sure, there is absolutely no doubt that there are unscrupulous and unsavory characters in lending markets engaging in bad acts ranging from fraud to preying upon vulnerable borrowers.  Nonetheless, it is critical to recognize the positive role that lending markets and the availability of consumer credit has played in the American economy, especially in facilitating entrepreneurial activity and small business growth.  Taking into account these important benefits is fundamental to developing sound consumer credit policy.  I had hoped that the hearings might focus upon Mr. Cordray’s underlying philosophical approach to weighing the costs and benefits of credit regulation and how that balance might be struck at his CFPB.  They did not, instead focusing largely upon another important issue: the precise contours of CFPB authority and oversight.

Currently, the unemployment rate is over 9 percent and all of the available evidence suggests the CFPB’s approach will run a significant risk of overregulation that will reduce the availability of consumer credit to small businesses and thus further depress the economy.  Therefore, getting hard answers concerning how the CFPB views and will account for these risks in its enforcement and regulatory decisions is critical.  Certainly, the nomination hearing offered small hints toward this end.  We learned that under Mr. Cordray’s watch, CFPB enforcement will involve not only lawsuits but also a “more flexible toolbox” that includes “research reports, rulemaking guidance, consumer education and empowerment, and the ability to supervise and examine both large banks and many nonbank institutions.”

The job of protecting consumers in financial products markets—the domain of the new CFPB—extends to all such consumers.  The benefits of healthy markets and competition in consumer credit products has generated tremendous economic benefits to the most disadvantaged as well as to small businesses.  If the CFPB agenda were limited to educating consumers about the costs and benefits of various products and improving disclosures, there would be far less need for concern that it will be a drag on consumers, entrepreneurial activity, and economic growth.  However, the CFPB’s intellectual blueprint suggests a more aggressive and dangerous agenda, and the authority it has been granted renders that agenda feasible.  The CFPB must account for the benefits from lending markets and balance them against its laudable objective of preventing deceptive practices when crafting its enforcement and regulatory agenda.  Unfortunately, after Tuesday’s nomination hearing, the CFPB’s approach to this complex and delicate balance remains an open question.

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[1] David S. Evans & Joshua D. Wright, The Effect of the Consumer Financial Protection Agency Act of 2009 on Consumer Credit, 22(3) Loyola Consumer L. Rev. 277 (2010).

[2] Oren Bar-Gill & Elizabeth Warren, Making Credit Safer, 157 U. Pa. L. Rev. 1, 39 (2008).

8 responses to My Reflections on The Senate CFPB Hearing

  1. 

    The problems you cite with the CFPB are not a bug but a feature. One likely result is surely part of the plan: namely, that the plaintiffs’ bar will have the opportunity to pick over the carcasses of businesses caught on the horns of the twin mandates to offer credit to poor minorities but not in any way that reflects the higher costs of offering such credit. Plain vanilla financial products would have to be priced too expensively, so businesses will not meet their mandates to serve “underserved” communities. Complicated products with “hidden” or back end costs (like floating rate mortgages with initial teaser rates) which would make sense financially will be outlawed. Toss in a Civil Rights suit from DOJ and you have a wonderful opportunity to extract rents and campaign donations from financial services firms looking for a little protection.

  2. 
    north fork investor 9 September 2011 at 12:18 pm

    “all of the available evidence suggests the CFPB’s approach will run a significant risk of overregulation that will reduce the availability of consumer credit to small businesses and thus further depress the economy.”

    what evidence? or just punditry?

    • 

      Don’t be afraid to click through the links.

      • 
        north fork investor 10 September 2011 at 7:21 am

        having done so the question still stands. that piece contains no evidence, just supposition. (and what happened to my longer response from yesterday?)

      • 

        The intellectual founders have made a number of specific, concrete proposals that would restrict access to credit to individuals and small businesses. The head economist has done the same in his paper with Michael Barr. Those proposals are discussed in the paper as are the obvious and widely understood economic benefits of access to consumer credit for small businesses. Your glib response and question aside, the proposals proffered by these folks are alone sufficient to demonstrate the proposition and are discussed in detail in the paper.

        PS – I’ve no idea about any other response. I see nothing in the queue.

    • 
      north fork investor 10 September 2011 at 8:28 am

      Glib? To simplify, let us assume your scholarship is primarily based on your summary of the Barr paper. Where is the evidence that these specific concrete proposals will “run a a significant risk of overregulation” and that unlimited access to consumer credit is an econonomically efficient outcome. I have spent 25 years designing financial products (not all of them consumer) and know where the bodies are. (ie hidden fees and optionality working against the consumer). And if you think retail consumers understand these products you are not living in the real world. Some products are explicitly designed to attract buyers who are most likely to make poor economic decisions. Home economics (ie household finance) courses (if they are taught) are hardly up to the task of dealing with many of these products. And much of institutional financial innovation since the first days of mortgage back bond slicing and dicing in the very early 80s is just a way to hide leverage and concentrate optionality.

      Try the following simple experiment which would be real evidence. Refinance your mortgage. (I am in the process). Compare it with the last time you did it. (I keep all the disclosure and similar docs in pdfs). In my case I am comparing a conforming 2011 coop stock loan refi with a late 2008 one. See if the new CFBP disclosures don’t save you money. In 2008 my all in transaction costs were about $3,000 and I had no clue how much the mortgage broker was making from me and the lender. Today he has to disclose it and in some cases the mortgage packager does not allow the broker to bury his fees above a set limitiation. So in 2011 my all in transaction costs will be about $1000 because of a large credit I will receive from the lender against my transaction costs (which may still be too high).

      Or if this is not a feasible experiment for you go out and talk to some actual mortgage brokers and ask them about how their life and profitability has changed to look for some real evidence of some good things that have already happened due to the CFBP.

      • 

        Glib. If you had read the article as you claim (or even the short piece linked above) you would see that there is much agreement about the benefits of improved disclosures and targeted enforcement. Nor has anybody argued that “unlimited access to consumer credit is an econonomically [sic] efficient outcome.” The intellectual assumptions of behavioral economics underlying many of the policy proposals (e.g. plain vanilla) do indeed threaten to chill the availability of consumer credit and these issues are discussed at length in the paper. Your comments have now convinced me you have no interest in engaging in actual arguments I or other have made on these topics.

      • 
        north fork investor 11 September 2011 at 6:37 am

        Perhaps I can summarize my thinking this way. I find the biggest threat your paper and blog suggest is that CFBP is likley to chill the availability of consumer credit. I think your warning is a libertarian scare tactic and very premature and backed by very weak evidence because evidence scarcely exists. In my opinion this is not scholarship. You have a hypothesis to test. Lets see how things work out over the next 2-5 years if the CFBP is still around. Then we can argue.