Consumer Reports asked Elizabeth Warren, Leo Gottlieb Professor of Law at Harvard Law School and a leading proponent of consumer finance reform, to talk about the proposed Consumer Financial Protection Agency. In this third Q&A segment, she dicusses the current regulatory climate, and how the CFPA would improve protections for consumers of financial products.
CR: Opponents of the proposed CFPA maintain that the functions of monitoring financial institutions’ safety and soundness and of protecting consumers should be kept under its roof. Your comments?
EW: The Federal Reserve, the Office of the Comptroller of the Currency, and the Office of Thrift Supervision have had the legal authority to protect consumers for decades. The agencies’ well-documented refusal to protect consumers – refusal that ultimately jeopardized safety and soundness of financial institutions and that brought the economy to its knees –is the best proof that the current system doesn’t work. If we don’t learn from this crisis, we will be doomed to repeat it.
The current structure is structurally flawed. First, financial institutions can choose their own regulators, which causes regulators to under-regulate. By changing from a bank charter to a thrift charter, for example, a financial institution today can change from one regulator to another. In fact, an institution may decide to evade a federal regulator altogether by housing its operations in the states and forgoing a federal charter. Institutions can shop around for the regulator that provides the most lax oversight, and bank holding companies can shift their business from their regulated subsidiaries to those with no regulation--and no single regulator can stop them. The problem is exacerbated by the funding structure: regulators’ budgets come in large part from the institutions they regulate.
The second structural flaw is a cultural one: consumer protection staff at existing agencies is small, last to be funded, and always playing second fiddle to the primary mission of the agencies. At the Federal Reserve, senior officers and staff focus on monetary policy. At the Office of the Comptroller of the Currency and the Office of Thrift Supervision, agency heads worry about capital adequacy requirements and safety and soundness. As the current crisis demonstrates, even when they have the legal tools to protect families, existing agencies have shown little interest in effective consumer protection.
Keeping safety and soundness and consumer protection together has not ensured safety and soundness or not protected consumers.
CR: Critics of a new CFPA say it would add another layer of regulation, which could be costly to banks and hurt smaller banks’ ability to compete.
EW: Current regulations in the consumer financial area are layered on like pancakes: See a problem and fry up a regulation, but don’t integrate it with the earlier regulation. The result is our complicated, fragmented, expensive, and ineffective system. With consolidated and coherent authority, the CFPA can harmonize and streamline the regulatory system. The CFPA … is not another layer of regulation.
The CFPA would enhance the competitive position of smaller institutions in two ways. First, the CFPA will reduce regulatory burden. While large institutions can hire legions of lawyers and spread the cost among millions of customers, small institutions are crushed under complex requirements. The CFPA would reduce burden by streamlining current rules and making them more coherent. It would also reduce burden by allowing institutions to satisfy all federal regulatory requirements by using an off-the-shelf template for “plain vanilla” contracts [such as traditional, 30-year fixed mortgages]. The lender would still fill in the blanks for interest rates, penalty rates, and a few other key terms. ... If institutions choose to offer more complicated or risky products, they can still satisfy requirements if their products are disclosed in terms that can be read quickly and that can be clearly understood. Under such a system, community banks and credit unions will be able to divert fewer resources toward regulatory compliance and be better able to compete with the big banks.
Second, the CFPA would enhance the competitive position of smaller institutions by making products easier to compare. Today, large institutions can lure customers from local and regional banks and credit unions with large advertising budgets—even when those community banks or credit unions are offering better products with fewer—or no—tricks and traps. Small banks will benefit from a market that allows for comparison and competition.
CR: What about the argument that the government should instead work to “fill in the gaps” in financial regulation and supervision of non-bank entities, which have been fingered as the main culprits of the current crisis. What’s your view of that approach?
EW: By creating a consistent set of safety standards for financial products across the board– regardless of the legal form the issuer takes–the CFPA would also fill the gaps in the current system. Non-regulated, non-bank entities will have to play by the same rules as banks, and banks will no longer be forced to choose between losing market share or sacrificing standards.
As we now know, dangerous consumer products have destabilized families and injected huge amounts of risk into our economy. Real regulatory reform is needed, and real regulatory reform means more than making tweaks on the margins and perpetuating a status quo that failed us.