Tag Archives: testing

Putting Disclosure to the Test

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Scientist looking through microscope

Talia Gillis has posted Putting Disclosure to the Test: Toward Better Evidence-Based Policy to SSRN. This is another one of those papers that seems so esoteric, but really addresses an incredibly important topic in consumer protection.  The abstract reads,

Financial disclosures no longer enjoy the immunity from criticism they once had. While disclosures remain the hallmark of numerous areas of regulation, there is increasing skepticism as to whether disclosures are understood by consumers and do in fact improve consumer welfare. Debates on the virtues of disclosures overlook the process by which regulators continue to mandate disclosures. This article fills this gap by analyzing the testing of proposed disclosures, which is an increasingly popular way for regulators to establish the benefits of disclosure. If the testing methodology is misguided then the premise on which disclosures are adopted is flawed, leaving consumers unprotected. This article focuses on two recent major testing efforts: the European Union’s testing of fund disclosure and the Consumer Financial Protection Bureau’s testing of the integrated mortgage disclosures, which will go into effect on August 1, 2015.

Despite the substantial resources invested in these quantitative studies, regulation based on study results is unlikely to benefit consumers since the testing lacks both external and internal validity. The generalizability of the testing is called into question since the isolated conditions of testing overlook the reality of financial transactions. Moreover, the testing method mistakenly assumes a direct link between comprehension and improved decisions, and so erroneously uses comprehension tests.

As disclosure becomes more central to people’s daily lives, from medical decision aids to nutritional labels, greater attention should be given to the testing policies that justify their implementation. This article proposes several ways to improve the content and design of quantitative studies as we enter the era of testing.

One of those clauses bears repeating: “the testing method mistakenly assumes a direct link between comprehension and improved decisions.” I have said repeatedly that the CFPB should rigorously test its financial literacy initiatives because the academic literature does not lend much support to the claim that those initiatives actually help consumers make better financial decisions.

This paper makes a strong case that the CFPB is not paying sufficient attention to the scholarly literature in this area. If so, it may, as a result, lead consumers down a path paved with good intentions that ends at a destination nobody wants to go.

Wednesday’s Academic Roundup

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Performance-Based Consumer Law

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Lauren Willis has posted Performance-Based Consumer Law to SSRN. This article

makes the case for recognizing performance-based regulation as a distinct tool in the consumer-law regulatory toolbox and for employing this tool broadly. Performance-based consumer law has the potential to incentivize firms to educate rather than obfuscate, develop simple and intuitive product designs that align with rather than defy consumer expectations, and channel consumers to products that are suitable for the consumers’ circumstances. Moreover, the process of establishing performance standards would sharpen our understanding of our goals for consumer law, and the process of testing for compliance with those standards would produce data about how to meet those goals in a continually evolving marketplace. Even if performance-based regulation does not directly lead to dramatic gains in consumer comprehension or marked declines in unsuitable uses of consumer products, the process of establishing and implementing such regulation promises dividends for improving traditional forms of regulation. (1)
This seems like a pretty radical change from our current approaches to the regulation of consumer financial transactions. Willis argues that disclosure does not work (no argument there) and industry can easily circumvent bright line rules (no argument there). She claims that a suitability regime, like ones that exist in the brokerage industry, offer a superior alternatives.  She writes,
Suitability standards would be closer to traditional substantive regulation, but more flexible. Regulation might define suitable (or unsuitable) uses of types or features of products, or firms might define suitable uses of their products, provided that they did so publicly. Although suitability might be required of every transaction, testing every transaction for suitably would often be prohibitively expensive and ad hoc ex post enforcement would create only limited incentives for firm compliance. Better to set performance benchmarks for what proportion of the firm’s customers must use the products or features suitably (or not unsuitably) and use field-based testing of a sample of the firm’s customers to assess whether the benchmarks are met. Enforcement levers could include, e.g., fines, rewards, licensing consequences, regulator scrutiny, or unfair, deceptive, or abusive conduct liability. (4)
This is certainly intriguing. But just as certainly, one can see the consumer finance industry raising concerns about a lack of clear rules to guide their actions and the after-the-fact evaluations that this approach would subject them to. Willis is too quick to reject such concerns, but they are legitimate ones that would need to be addressed if performance-based consumer law was to be widely adopted. Nonetheless, this is an intriguing paper and its implications should be further explored.