Tag Archives: CFPB

Reiss on Cramming

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E-Commerce Times quoted me in Feds Pounce on Sprint for Phone Bill Cramming. It opens,

The United States government is delivering a one-two punch to Sprint over the practice of cramming — allowing third parties to place unauthorized charges on customers’ bills.

The Consumer Finance Protection Bureau on Thursday filed a civil suit against Sprint over the issue.

Meanwhile, the Federal Communications Commission reportedly is planning to hit Sprint with a US$105 million fine.

Coordination between the government agencies “is not atypical,” said David Reiss, professor of law at the Brooklyn Law School.

“Frequently federal government agencies coordinate their actions for better results,” he told the E-Commerce Times.

It’s possible that the FCC was negotiating with Sprint prior to the CFPB taking action, suggested Robert Jaworsky, a partner at ReedSmith.

“I doubt the FCC will take any action while this lawsuit is pending,” he told the E-Commerce Times.

The CFPB’s Allegations

Sprint charged wireless customers for unauthorized third-party services from 2004 through 2013, costing them millions of dollars each year, by creating a billing and payment system that provided third parties with unfettered access to its customers’ accounts, according to the CFPB complaint.

Sprint automatically enrolled customers in this billing system without their knowledge or consent, and many customers were unaware of the unauthorized charges, the bureau maintains.

Sprint continued to operate its system despite numerous red flags, including high refund rates, along with complaints from customers, law enforcement agencies and consumer groups, the CFPB claims. The carrier retained 40 percent of the gross revenue collected for the third-party charges, totaling “hundreds of millions of dollars.”

Sprint took advantage of its customers, treated them unfairly in various ways, mishandled or ignored complaints about the unauthorized charges, and didn’t track them, said CFPB director Robert Cordray.

Sprint refused to provide refunds to some customers, instead telling them how to block future third-party charges, he added — and sometimes it referred victims back to the scammers themselves.

Lederman, Rahman & Reiss on CFPB No-Action Policy

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Jeff Lederman, Sabeel Rahman and I submitted a comment on the Consumer Financial Protection Bureau’s proposed policy on No-Action Letters. Basically,

This is a comment on the Consumer Financial Protection Bureau’s (the “Bureau”) proposed Policy on No-Action Letters (the “Policy”).  The Policy is a step in the right direction, but a more robust Policy could better help the Bureau achieve its statutory purposes.

The Bureau recognizes that there are situations in which consumer financial service businesses (“Businesses”) are uncertain as to the applicability of laws and rules related to new financial products (“Products”); how regulatory provisions might be applied to their Products; and what potential enforcement actions could be brought against them by regulatory agencies for noncompliance.  Businesses could therefore benefit from the issuance of a No-Action Letter to reduce that uncertainty.

There is very little scholarly literature on the use of No-Action Letters by administrative agencies.  In the absence of comprehensive studies, it is hard to precisely determine how to allocate agency resources to informal guidance as opposed to other types of regulatory action.  Notwithstanding this, an agency should attempt to determine the optimal amount of its resources that should be devoted to informal guidance as opposed to the alternatives and then refine that initial estimate as experience dictates.

A rapidly changing field like consumer finance can benefit from the availability of quick and informal feedback for Businesses so long as the process is properly designed.  Because the Policy would use a relatively small amount of Bureau resources compared to other types of regulatory action, a well-designed No-Action Letter Policy would be a win-win-win for Businesses, for the Bureau and for consumers.

Solving Complexity in Consumer Credit

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Kathleen Engel posted Can Consumer Law Solve the Problem of Complexity in U.S. Consumer Credit Products? to SSRN. The abstract reads,

People like to know and understand the total cost of credit products they are considering. They also like to know and understand products’ terms and features. Given these preferences, issuers of credit should market products with transparent features and simple pricing. That is not the case. In fact, over the last few decades we have seen a plethora of complex terms in products such as mortgage loans, credit cards, and prepaid debit cards.

As credit products have become ever more complex, consumers have more choices and can select products that satisfy their particular needs and preferences. No longer are borrowers limited to a 30-year, fixed-rate mortgage. If they know they will be moving in a few years, a 3-year fixed-rate mortgage with a low interest rate that converts to a 27-year adjustable rate mortgage based on the LIBOR might be the right product for them. However, for borrowers who do not understand the complexities of a 3-27 mortgage loan, the low, initial interest rate could be a costly lure. Confusion is commonplace. In one study giving consumers a choice between two credit cards that varied only in terms of the annual fee and the interest rate, forty percent of the participants chose the more expensive card.

One would expect that consumers, who cannot decipher terms and calculate the cost of complex products, would turn to those with easy-to-understand terms. There are some simple products on the market. Instead, consumers often misperceive that the more complex products are less expensive than the simple ones. They, thus, shun the products that would be in their best interest.

In this paper, I explain why borrowers make sub-optimal choices when selecting credit products. I then analyze whether extant laws could be used to address obfuscating complexity. I ultimately conclude that policy-makers should look to extra-legal remedies to protect consumers against exploitative complexity.

I find those “extra-legal remedies” to be the most interesting part of this paper. Engel writes,

The approach I find most appealing is to use digital technology to help consumers make decisions. A software program would act like an agent, helping consumers determine what they could afford, what product would best meet their needs, and, lastly, would generate bids from providers of the product. Several goals motivate this idea: (1) the approach is preventative; (2) it does not require the courts to interpret vague standards; (3) it is less costly than litigation; (4) it protects unsophisticated consumers without requiring them to become sophisticated; and (5) it permits consumers to “pull” the information they need to select a product, rather than having issuers “push” hundreds of pages of information to them on multiple products. (24-25)

The paper does not explore how consumers would access this “choice agent,” but it is certainly an idea worth exploring. As some of my recent posts suggest, it is hard to rationally regulate for the entire population of consumers as they are a heterogeneous bunch. But it is important that we keep trying. Engel’s paper has some interesting ideas that are worth pursuing further.

Regulating Rationally for Consumers

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Alan Schwartz has posted Regulating for Rationality to SSRN. The abstract reads,

Traditional consumer protection law responds with various forms of disclosure to market imperfections that are the consequence of consumers being imperfectly informed or unsophisticated. This regulation assumes that consumers can rationally act on the information that it is disclosure’s goal to produce. Experimental results in psychology and behavorial economics question this rationality premise. The numerous reasoning defects consumers exhibit in the experiments would vitiate disclosure solutions if those defects also presented in markets. To assume that consumers behave as badly in markets as they do in the lab implies new regulatory responses. This Essay sets out the novel and difficult challenges that such “regulating for rationality” — intervening to cure or to overcome cognitive error — poses for regulators. Much of the novelty exists because the contracting choices of rational and irrational consumers often are observationally equivalent: both consumer types prefer the same contracts. Hence, the regulator seldom can infer from contract terms themselves that reasoning errors produced those terms. Rather, the regulator needs a theory of cognitive function that would permit him to predict when actual consumers would make the mistakes that laboratory subjects make: that is, to know which fraction of observed contracts are the product of bias rather than rational choice.

The difficulties exist because the psychologists lack such a theory. Hence, cognitive based regulatory interventions often are poorly grounded. A particular concern is that consumers suffer from numerous biases, and not every consumer suffers from the same ones. Current theory cannot tell how these biases interact within the person and how markets aggregate differing biased consumer preferences. The Essay then makes three further claims. First, regulating for rationality should be more evidence based than regulating for traditional market imperfections: in the absence of a theory the regulator needs to see what actual people do. Second, when the facts are unobtainable or ambiguous regulators should assume that bias did not affect the consumer’s contracting choice because the assumption is autonomy preserving, administerable and coherent. Third, disclosure regulation can ameliorate some reasoning errors. Hence, abandoning disclosure strategies in favor of substantive regulation sometimes would be premature.

This essay adds to a growing literature that challenges the ability of regulators to effectively incorporate the lessons of behavioral economics into consumer protection regimes. I take no position at this time on the particular claims of this essay, but I certainly think that the Consumer Financial Protection Bureau should grapple with this growing body of literature. The only thing worse than no consumer protection regime at all, would be one that was designed all wrong.

Romano’s Iron Law of Financial Regulation

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Roberta Romano has posted an essay, Further Assessment of the the Iron Law of Financial Regulation:  A Postscript to Regulating in the Dark, to SSRN. The abstract reads,

In an earlier companion essay, Regulating in the Dark, I contended that there is a systemic pattern in major U.S. financial regulation: (i) enactment is invariably crisis driven, adopted at a time when there is a paucity of information regarding what has transpired, (ii) resulting in off-the-rack solutions often poorly fashioned to the problem at hand, (iii) with inevitable flaws given the dynamic uncertainty of financial markets, (iv) but arduous to revise or repeal because of the stickiness of the status quo in the U.S. political framework of checks and balances. This pattern constitutes an “Iron Law” of U.S. financial regulation. The ensuing one-way regulatory ratchet generated by repeated financial crises has produced not only costly policy mistakes accompanied by unintended consequences but also a regulatory state whose cumulative regulatory impact produces over time an increasingly ineffective regulatory apparatus.

This Postscript analyzes the experience with regulators’ implementation of Dodd-Frank since the publication of the earlier essay. After a discussion of broad issues related to the statute and its implementation, the analysis focuses on two provisions by which Dodd-Frank exemplifies the difficulties that are created by legislative strategies conventionally adopted in crisis-driven legislation, off-the-rack solutions along with open-ended delegation to regulatory agencies as legislators, who perceive a political necessity to act quickly, adopt ready-to-go proposals offered by the policy entrepreneurs to whom they afford access: the Volcker rule, which prohibits banks’ proprietary trading, and the creation of the Consumer Financial Protection Bureau. The analysis bolsters the original essay’s contention regarding the inherent flaws in major financial legislation and the corresponding benefit for improving decision-making that would be obtained from employing, as best practice, the legislative tools of sunsetting and experimentation to financial regulation. The use of those techniques, properly implemented, advances means-ends rationality, by better coupling the two, and improves the quality of decision-making by providing a means for measuring and remedying regulatory errors.

This is a foray into the dark heart of financial regulation. Romano finds much to be unhappy with. I disagree, however, with some of her main points. For instance, I think that her assessment of the role of the CFPB in the broader context of financial regulation misses the mark. She argues that the “absence of a designated consumer-product regulator” did “not contribute to the financial crisis.” (28) In fact, regulating exotic loan terms like Option ARMs and teaser rates would have slowed the expansion of the subprime market. Those exotic terms allowed lenders to keep the party going longer than it would have otherwise. And that would have limited the exposure of financial institutions to subprime mortgage-backed securities.

Notwithstanding my disagreements with this essay, I think that Romano’s “Iron Law” of financial regulation remains, unfortunately, quite strong.

 

No Action on Financial Innovation?

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The Consumer Financial Protection Bureau issued a Request for Comment on a proposed policy regarding No-Action Letters. Under the proposed policy, the Bureau could

issue no-action letters (NALs) to specific applicants in instances involving innovative financial products or services that promise substantial consumer benefit where there is substantial uncertainty whether or how specific provisions of statutes or regulations implemented by the Bureau would be applied (for example if, because of intervening technological developments, the application of statutes and regulations to a new project is novel and complicated). The Policy is also designed to enhance compliance with applicable federal consumer financial laws. (79 F.R. 62119)

The notice goes on,

The Bureau recognizes that, in certain circumstances, some may perceive that the current regulatory framework may hinder the development of innovative financial products that promise substantial consumer benefit because, for example, existing laws and rules did not contemplate such products. In such circumstances, it may be substantially uncertain whether or how specific provisions of certain statutes and regulations should be applied to such a product—and thus whether the federal agency tasked with administering those portions of a statute or regulation may bring an enforcement or supervisory action against the developer of the product for failure to comply with those laws. Such regulatory uncertainty may discourage innovators from entering a market, or make it difficult for them to develop suitable products or attract sufficient investment or other support.

Federal agencies can reduce such regulatory uncertainty in a variety of ways. For example, an agency may clarify the application of its statutes and regulations to the type of product in question—by rulemaking or by the issuance of less formal guidance. Alternatively, an agency may provide some form of notification that it does not intend to recommend initiation of an enforcement or supervisory action against an entity based on the application of specific identified provisions of statutes or regulations to its offering of a particular product. This proposal is concerned with the latter means of reducing regulatory uncertainty in limited circumstances. (79 F.R. 62119)

This notice certainly identifies a problem inherent in the complex regulatory state we live in — heavy regulation can impede innovation. It is a good thing to try to address that problem, but it is far from certain how effective a No Action regime will be in that regard. It is hard to imagine that it could do any harm though, so it is certainly a reasonable step to take.

Your thoughts? Comments are due December 15th, so get crackin’!

Reiss on Privatization of Fannie and Freddie

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BadCredit.org profiled an article of mine in Brooklaw Professor Pushes for Privatization of Fannie Mae/Freddie Mac. The profile opens,

Since the end of the Great Recession, policymakers, academics and economists have been struggling with a very difficult question — what should we do with Fannie Mae and Freddie Mac? Should the government continue its role in providing mortgage credit to millions of American?

Fordham University Associate Professor of Law and Ethics Brent J. Horton made a proposal in his forthcoming paper “For the Protection of Investors and the Public: Why Fannie Mae’s Mortgage-Backed Securities Should Be Subject to the Disclosure Requirements of the Securities Act of 1933“:

“The best way to reduce risk taking at Fannie Mae is to subject its MBS offerings to the disclosure requirements of the Securities Act of 1933,” Horton writes.

However, Brooklyn Law School Professor of Law David Reiss believes “the problems inherent in Fannie Mae’s structure are greater than those that increased disclosure can address.”

In his response, titled “Who Should Be Providing Mortgage Credit to American Households?” Reiss points to increased privatization as one way to address the question of what to do with Fannie Mae and Freddi Mac.