246 posts categorized "Credit Policy & Regulation"

Dancing Around the Risk Question

posted by Lauren Willis

Reflecting on my last two posts – price caps, loan structure requirements, underwriting rules – discussing any of these puts the cart before the horse. We know we want to rein in risk without cutting off access to credit that is not too risky. But how much risk is too much risk when it comes to credit? 

I began posing this question to audiences at one of the very first talks I gave as an academic (a 2005 talk about predatory mortgage lending), but while most of my talks generate plenty of responses, not once has a single audience member attempted to answer this question.  

It is a remarkably difficult question to answer, one that varies with the expected costs and expected benefits, to borrowers, lenders, and society, of each extension of credit. Moreover, actual future costs and benefits are often unknown and perhaps unknowable (meaning we are dealing with uncertainty, not merely outcomes with known risk distributions) and incommensurable (meaning tradeoffs are difficult).

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The Virtues of Price Caps

posted by Lauren Willis

In the last post I discussed the potential benefits of price caps in the small loan market, one of which was to bring the price down to what consumer price shopping would produce if it were present in that market. Now I would like to turn to the potential benefit of price caps in even the most (albeit still quite imperfectly) price-competitive credit market, the mortgage market.

While superficially appearing to be about price, the primary potential benefit of credit price regulation is that it can rein in risk. Even in the small loan market, the primary problem is not paying high, noncompetitive prices, but the risk of not being able to pay off the principal and then being trapped in debt servitude to a loan shark. This trap imposes social costs and high psychological costs on the borrower. The primary problem in the mortgage crisis has also been risk, the risk of default and foreclosure. Risk is intimately tied to price in both situations, but setting a “fair” or “efficient” price seems to me to be to be secondary. (Then again, I am culturally tone-deaf, so maybe fairness in pricing is really what has motivated usury restrictions over the centuries; some historical accounts, however, place the risk of debt servitude as the primary motivator).

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Usury and the Loan Shark Myth

posted by Lauren Willis

Consumer financial education, disclosure, and defaults all dispensed with in my prior posts, shall we move on to “substantive” regulation, dare I even say “usury”? Before we do that, I need to clear up another myth that, like the belief in the efficacy of consumer financial education, is deeply ingrained: the loan shark myth.

Forthcoming in the Washington & Lee Law Review is a historical expose of the relationship – or lack thereof – between credit price regulation in the small loan market and loan sharking. The author, political scientist Robert Mayer, finds that what the popular culture has called loan sharking consists of two different types: violent and nonviolent. Both have been characterized by: (1) high prices, in excess of usury restrictions where such restrictions have applied, and (2) short-term, nonamortizing loans made to people who have a decent likelihood of being able to pay the interest amount due at maturity but a low likelihood of being able to pay off the principal balance, resulting in a steady stream of interest income to the lender as the loans roll over and over. It is this second feature that in the 19th Century first earned even nonviolent loan sharks their “shark” moniker – a single loan, even if it is expensive, looks harmless enough, but stealthily traps the borrower in a cycle of debt.

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Minimum Wage & Consumer Borrowing

posted by Bob Lawless

Over at VoxEU, economists Daniel Aronson and Eric French have a discussion about the their research of the effects of a minimum wage hike. I found my way to this post through Yves Smith's discussion of the topic at Naked Capitalism, which also includes some informative tables showing that the proposed hike to $9/hour is still below a living wage in many areas of the country.

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National Consumer Protection Week and Disclosure 3.0

posted by Jean Braucher

It’s National Consumer Protection Week (NCPW)!   Federal, state, local, and nonprofit consumer protection agencies and organizations are making extra efforts to promote consumer awareness

First I have to get out of my system thoughts of Tom Lehrer’s song, National Brotherhood Week:

                Step up and shake the hand/Of someone you can’t stand . . .

                It’s only for a week so have no fear/Be grateful that it doesn’t last all year.

But to get back on message, of particular interest to Credit Slips readers is this part of the mission of consumer protection described on the NCPW website:

    "Financial Fraud Scams: American consumers owe a whopping $11.31 trillion dollars in debt and are behind on paying about $1.01 trillion of that amount. Mortgages, student loans, and credit cards account for a large portion of that debt. Consumers are often haunted with huge monthly payments, and fraudsters take advantage of that with debt relief scams, tax scams, and other financial fraud scams. Scams target individuals who are in financial distress, but they fail to fulfill their promises, and typically leave consumers worse off than when they started."

Let me say that Lauren Willis has done a great job on this site recently taking us, patiently and painstakingly, through the many problems with the idea that disclosure can be refined into a digital juggernaut to protect consumers. See here  and here and here.

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When Nudges Fail: Slippery Defaults

posted by Lauren Willis

Now that my last few posts have bludgeoned consumer financial education and at least bloodied disclosure, and given that my suggestion of comprehension requirements is completely untested as a means of consumer protection for financial products, what about “nudges”? 

One nudge I have taken a close look at is the use of policy defaults. Defaults are settings or rules about the way products, policies, or legal relationships function that apply unless people take action to change them. Although some defaults in the law are mere gap-fillers and others, as pointed out by Ian Ayres and Robert Gertner, penalize one or more parties with the intention that the parties will contract out of them, policy defaults aim for stickiness. The idea behind policy defaults is to set the default to a position that is good for most individuals, under the assumption that only the minority who have clear preferences to the contrary will opt out. 

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Disclosure 3.0: Making Disclosure Smarter

posted by Lauren Willis

What if, instead of making the consumer smarter or the disclosures more comprehensible, as discussed in my last several posts, we made financial product disclosures smarter? For the uninitiated, “smart disclosure,” according to the federal White House Task Force on Smart Disclosure, is “the release of data sets in usable forms that enable consumers to compare and choose between complex services.” The Task Force description continues: “Smart disclosure requires service providers to make data about the full range of their service offerings available in machine-readable formats such that consumers can then use these data to make informed choices about the goods and services they use. While consumers may access the data directly in some cases, the data may also be useful in enabling government agencies or third parties to create online tools for consumer choice.” 

The idea is that both the government and firms will be required to release, in close to real time, complete price, feature, and performance data about products and services offered by the firm or government entity (“product data”) so that consumers can input their own preferences into on-line or mobile app tools (“infomediaries”) that can then recommend the products or services that will best meet those preferences. Kayak for everything! 

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Putting Disclosure to the Test: User Comprehension Requirements

posted by Lauren Willis

Given the limitations of Disclosure 2.0 and Disclosure 2.5 I described in my last posts, what is to be done? To answer this question, we might first ask what financial product disclosure is attempting to achieve. Although disclosure has several aims, one is consumer comprehension to the degree necessary to enable good decisions. Disclosure rules require particular information to be imparted, often in a specified format. What if the law instead allowed firms to disclose whatever truthful and nonmisleading content they choose in whatever format they choose, but required firms to demonstrate, through field-based testing, consumer comprehension of the key facts about the financial product needed to make a good fact-based decision? 

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Facebook & Credit Scores

posted by Bob Lawless

From the February 9th Economist:

Some firms piece together scores by analysing applicants’ online social networks. Professional contacts on LinkedIn are especially revealing of an applicant’s “character and capacity” to repay, says Navin Bathija, the founder of Neo, a start-up that assesses the creditworthiness of car-loan applicants. Neo’s software helps determine if applicants’ claimed jobs are real by looking, with permission, at the number and nature of LinkedIn connections to co-workers. . . .

Neo’s efforts to improve accuracy include recording borrowers’ Facebook data: Mr Bathija reckons that within a year there will be enough evidence to determine if making racist comments on Facebook is correlated with a lack of creditworthiness.

Racists? Sure, let's jack up their borrowing costs. But, if linking to cat videos on Facebook is correlated with a lack of creditworthiness, people are going to get upset.

The article is worth a read as it shows where we might be heading with Big Data and credit scoring. Regulation does and undoubtedly will play a major role in drawing boundary lines around what data can be used in credit scoring. But, where Big Data offers competitive advantages, companies will seek it out. It will be tough to get the genie back in the bottle once the horses have left the barn.

H/t to Frank Venis.

Disclosure 2.5: Moving from the Lab to the Field

posted by Lauren Willis

If financial education classes and lab-tested disclosures are unlikely to help consumers in their real-world financial decisions, what about field-tested targeted education/disclosure? Exciting work by Marianne Bertrand and Adair Morse shows that information given to payday borrowers can reduce their future borrowing, holding payday lender behavior static. Although this last caveat seriously limits the external validity of their results, the potential implications of their work are wonderful enough to be deserving of a full description here.

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Disclosure 2.0: Disclosure in the Lab

posted by Lauren Willis

If, as I suggested in my last post, making the consumer smarter is hopeless, at least for those of us whose prenatal and early childhood environments can no longer be altered, what about disclosure?  Could point-of-sale disclosure equip consumers to make good financial decisions? 

Simple disclosures appear effective in directly aiding consumer decisionmaking in some domains, the A, B, and C restaurant hygiene grades being the classic example.  But because financial products have many varying features that consumers need to understand to make good decisions, financial product disclosures are inevitably much more complex.  As a recent article by Omri Ben-Shahar and Carl Schneider details, generally speaking, consumers do not read, or if they do read they do not understand, or if they do understand they do not use correctly, the information presented in complex product disclosures.

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Which Consumer Financial Education Programs Are Most Effective?: Assuming a Fact Not in Evidence

posted by Lauren Willis

Thank you to the Credit Slips team for inviting me to guest blog.  First I must warn the reader that I am not a real blogger (I’m a bit of a Luddite - I don’t even have a smartphone).  But I’m going to join the 21st Century for a bit here.  Over the next couple of weeks I’ll be sharing my thoughts and some recent research pertinent to modes of consumer financial protection, from financial literacy education to policy defaults to product regulation.  As some of you already know, I have been critical of all of these.  But here I will also suggest some underexplored alternative routes to achieve the same ends of consumer financial well-being that have eluded us in the past.

I'll start today with financial education.  The CFPB would like your comments on “effective financial education approaches that create opportunities for consumers to improve their financial decision making capabilities.”  I thought I had blown up this myth already.  And others keep proving me right.  If you were at this past year’s Boulder Summer Conference on Consumer Financial Decision Making you know that a soon-to-be released exhaustive meta-analysis of past studies demonstrates that financial education does not produce better financial outcomes, and another study using a much larger dataset and a more robust set of controls than past work finds that financial literacy does not lead to improved financial outcomes. 

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Fair Lending Law Developments

posted by Alan White

Race -it continues to determine the availability and the price of credit, and particularly home financing, as each annual release of the Home Mortgage Disclosure Act data reminds us. No matter how much empiricists control for credit scores, home values, and other relevant variables, racial minorities, especially African-Americans, are more likely to be denied credit or charged higher rates than similarly-qualified Whites. 

The Department of Housing and Urban Development has just issued its final rule confirming that the Fair Housing Act prohibits home lending practices with a discriminatory impact on protected groups, and not just overt intentional discrimination.  Disparate impact analysis, based on the Supreme Court's longstanding interpretation of Title VII of the Civil Rights Act, has been approved as a method of proving discrimination in all the Courts of Appeals to consider the issue. For example, the Justice Department's 2011 case against Countrywide alleged that the lender gave pricing discretion and created incentives for loan officers that resulted in discriminatory pricing.  The case resulted in a $335 million settlement.

Nevertheless, lenders' lawyers have been vigorously contesting the disparate impact issue in cases under the Fair Housing Act and also under the Equal Credit Opportunity Act, which bans discrimination in all forms of credit.  The Supreme Court accepted cert. in a Minnesota case in 2011, but the City of St. Paul was persuaded to withdraw the case to avoid a ruling.  Civil rights advocates are hopeful that the HUD regulation will receive some deference from a Supreme Court that might otherwise be inclined to go with the banks on this issue.  Another cert. petition is pending before the Court in a case against Mt. Holly New Jersey.  The Court asked the Solicitor General to file a brief in the case in October, but has not ruled on the cert. petition yet. For more details, see the ProPublica story here.

OCC Review Whistleblower

posted by Alan White
Adam Levitin predicted here that the "independent" review of banks' foreclosure files ordered by the OCC in the wake of the robosigning scandals would be a sham, based among other things on the adverts to hire the reviewers.  Now, one apparently overqualified reviewer has told his story at Naked Capitalism, and it is worse than Adam predicted.  The banks are actively and successfully suppressing efforts  by reviewers to identify foreclosure errors and abuses and to identify and compensate victims.  Perhaps this could be the subject of a hearing for the newly constituted Senate Banking Committee...

What I Love about Kiva.org

posted by Alan White

Kiva.org is the on-line microlending network that allows anyone to lend $25 or more to individual low-income borrowers around the world for micro-enterprise and housing.   Kiva is an entirely different way of thinking about credit and financial intermediation. While it may be small, it is an example of the real utopias described by Erik Olin Wright in his 2012 presidential address to the American Sociology Association.

Through kiva’s web site, anyone wishing to make a loan can browse the descriptions of borrower projects. For example, a woman in Central America has applied for $350 to buy bricks, cement, wire, sand, gravel and iron to build on to her house, and proposes to repay over 15 months. NGOs prepare the loan descriptions, disburse and collect loans and provide support services to borrowers. 

The interest paid by the borrower covers the costs of payment transfers, underwriting and supervision of the loans and the administration of the program.  Lenders receive no interest.  Those of us with some surplus wealth can put it to productive use without insisting on enriching ourselves as a reward for being (at least relatively) wealthy.   This is especially painless at the moment when interest rates for savers in the conventional retail banking sector are low, but it can also give us an opportunity to reflect on the deep capture of contemporary economic thinking by the idea that capital is entitled to, and must always, earn interest for being put to use.

With its capacity to connect thousands of individual lenders with thousands of individual borrowers, kiva also points one way to solving to the maturity mismatch that creates so much risk for conventional banks.  An individual lender/saver can browse a list of thousands of potential loans of varying maturities, and match his or her own cash needs with the borrower’s.  There are no 30-year mortgages on kiva (yet) but the possibility is there. 

Whether microlending and microfinance generally are a net welfare benefit foScreen shot 2012-12-08 at 10.22.10 AMr poor borrowers is a complex and controversial question, to which there are a variety of empirical and theoretical responses.  Other peer-to-peer lending and crowdfuding experiments without the social mission have raised a host of problems, including high default rates.  I can say, though, that I experience more happiness browsing my kiva.org portfolio (see picture) than any of my other account statements.

CFPB's Anti-Abuse Authority: A Promising Development in Substantive Consumer Protection

posted by Jean Braucher

The Consumer Financial Protection Bureau is doing something promising with its anti-abuse authority under the Dodd-Frank Wall Street Reform and Consumer Protection Act of 2010.  It is going after credit industry exploitation of consumers, particularly when business models involve using confusing terms that disclosure cannot adequately address.  See my paper on this topic. So I was not surprised to see George Will attacking this development.   We can't have smart, effective consumer protection, no matter how popular it might be.

In a column published in many newspapers this week,Will wrote: “The CFPB's mission is to prevent practices it is empowered to ‘declare’ are ‘unfair, deceptive, or abusive.’ Law is supposed to give people due notice of what is proscribed or prescribed, and developed law does so concerning ‘unfair’ and ‘deceptive’ practices. Not so, ‘abusive.’”

The flaws in Will's critique are legion. First, the CFPB has given lots of notice of what it is doing, in a detailed examination handbook.

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MyConsumerTips.info

posted by Amy Schmitz
I have been working for a few years in developing and creating a consumer outreach website at MyConsumerTips.info.  The site is purely non-profit and has no sponsors or advertisers. It aims to simply provide consumers with “consumer tips” that change each day, independent summaries regarding debt-related and other consumer rights, quizzes and polls regarding such issues, and other consumer protection resources. It is user-friendly and interactive. This is part of my larger “Consumer Empowerment”service and experiential learning projects, and outreach endeavors.

Unfortunately, it is tough to gain traction for such non-profit sites without paying for promotions through Google or others. Also, there so many sites that purport to provide consumer resources that individuals suffer information overload and are not sure what to trust.

Hopefully, MyConsumerTips.info will deservedly gain trust, do some good and expand in ways that benefit consumers!  Check it out.

Protecting Public Rights

posted by Amy Schmitz

Contracts professors, policymakers, consumer groups and others have become particularly interested in another post-AT&T Mobility LLC v. Concepcion case.  The United States Court of Appeals for the Ninth Circuit recently agreed to an en banc rehearing of Kilgore v. Keybank, 673 F.3d 947 (9th Cir. 2012).  The issue in this case is whether Concepcion precludes courts from preserving judicial access for public injunctions under state consumer protection statutes by invoking the public policy exemption from the Federal Arbitration Act's ("FAA") mandate that courts enforce arbitration agreements according to their terms.  The en banc hearing is set for some time in December of this year.

The case is important on many levels.  It raises fundamental questions about the reach of FAA preemption in the wake of Concepcion, in which the United States Supreme Court held that the FAA preempted courts from using California unconscionability law to strike a class relief waiver and order class arbitration.  Moreover, the case implicates states' power to protect individuals' access to meaningful injunctive relief in order to enforce and protect public rights under state statutes, such as consumer protection statutes.  

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Mortgage Market 2011 - Not a Pretty Picture

posted by Alan White

The annual Federal Reserve report on Home Mortgage Disclosure Act (HMDA) data for 2011 paints a bleak picture.  Despite interest rates at or below 4%, mortgage lending volume continued its four-year decline.  The drop in mortgage lending was particularly steep for minority home buyers, and in distressed neighborhoods.  More than 40% of home purchase loans that were made were backed by government (FHA or VA) insurance.  Overall mortgage denial rates were 31% for black applicants compared to 12% for non-Hispanic whites.  Some of the difference is explained by income and credit variables, some by lender choice (or steering) and some remains unexplained.

Interestingly, the Fed staff also measured the extent to which homeowner income was overstated on 2005 and 2006 mortgage applications, by comparing HMDA and Census income information for those years.  They found that incomes were significantly inflated on applications for mortgages in Florida, California, Hawaii, Nevada and Rhode Island.  (Does this make Rhode Island a sand state?)

If historically cheap mortgage credit is not increasing supply or stimulating demand, then there remains a fundamental misalignment between home prices and household incomes and balance sheets.  Deleveraging still has a ways to go.

In Defense of Bankruptcy Courts (or, Is Bankruptcy Really That Exceptional?)

posted by Melissa Jacoby

Although not always acknowledged expressly, exceptionalism is pervasive in bankruptcy scholarship. Some work makes no attempt to contexualize bankruptcy within the federal courts, apparently assuming its unique qualities (for example, the disinterest in most bankruptcy venue scholarship about venue laws applicable to other multi-party federal litigation). But other projects are more deliberate in their exceptionalist pursuits.

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New Frontiers in Systemic Risk

posted by Bob Lawless
My oldest leaves for college in the morning. Yesterday, we were talking to him about his new bank account and how to use it responsibly to avoid overdrafts, fees, and such. The conversation gave me a new factor to consider in assessing the amount of systemic risk: the number of 18-year old boys with checkbooks.

Overspending in India

posted by Bob Lawless

Check out this story in the New York Times about free-wheeling consumer credit in India. Much of the article focuses on how Indians are using consumer credit to pay for cosmetic surgery. At one point, I had a collection of online advertisements offering Americans easy credit for different types of cosmetic surgery, but that was several universities ago. One of today's disappointments was discovering that file has disappeared.

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Arbitration Unconscionability Post-Concepcion

posted by Adam Levitin

My Georgetown colleague Rebecca Tushnet has a great post about a recent Missouri Supreme Court ruling, Brewer v. Missouri Title Loans, holding that an arbitration agreement in an auto title loan was unconscionable.  The case is important because it says that post-AT&T v. Concepcion arbitration agreements are still vulnerable to attack on generally applicable contract law grounds. Perhaps contract law isn't as dead as Justice Scalia claimed in Concepcion

It's a procedural unconscionability case; the court does mentions, but does not comment on, how payments of $1000 on a $2200 loan only reduced the loan balance by 6 cents. Even Walker-Thomas Furniture would be blushing.

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Article 9 and Bankruptcy Judges

posted by Melissa Jacoby

prior post addressed a proposed amendment to Article 9's official comments stating that the date of an Article 9 filing relates back to the initial filing date even if the debtor did NOT authorize the filing at that time. This post returns to that topic for two reasons. First, although it is risky to generalize, I sense that bankruptcy judges may still be unaware of this proposed amendment. This is relevant because bankruptcy judges often are on the "front lines" of Article 9 interpretation. Second, I have heard, indirectly, that at least some people want this amendment to lend approval to some lenders' current practice to routinely file without authorization during the loan application process. In other words, the loan is likely to be given within a few days, so no harm no foul. Maybe I misheard or misunderstood?  

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Recommended reading: Broome on Article 9 Financing Statements

posted by Melissa Jacoby

A few weeks ago I wrote about the importance of giving priority to an Article 9 financing statement only from the date on which the debtor  actually authorizes the filing, and a proposed official comment contrary to this position. My colleague Lissa Broome has just posted on SSRN an article she has written about another dimension of the issue: when secured parties file financing statements with an indication of collateral that is far broader than what the debtor authorized in the security agreement. She discusses recent cases that do not deter this activity as well as potential implications, including the chilling effect on future lending transactions.

When the debtor's signature was eliminated as a requirement for a valid financing statement in Revised Article 9, the drafters justified the change by technology: medium neutrality and facilitating paperless filing. Functionally, though, the implications go far beyond technology when you combine this change with the opportunity to file all-asset financing statements AND the broadest possible reading of the first to file or perfect rule discussed a few weeks ago.

Platform, Infrastructure, Utility?

posted by Bill Maurer & Stephen Rea

While we’ve been blogging, Stevie has begun his dissertation fieldwork in Korea. He emailed Bill the other day: “Yesterday I opened a bank account here in Seoul, and conducted the entire interaction in Korean. For some reason, I don't get an ATM card, which is really strange. But in all likelihood I had no idea what the teller was trying to say to me, so I might end up getting a card in the mail next week or something. As ‘technophiliac’ as this culture seems to be, cash is still king; outside of the large department stores and global restaurant chains, I don't see any POS terminals.”

There’s hype, there’s reality, and there’s possibility around all the cashlessness claims that follow on the heels of mobile and other digital payment platforms. We want to conclude our guest blogging with a gesture toward some of the possibilities of mobile money--and a challenge for the Credit Slips community.

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One Answer to Why People Hate Banks

posted by Bob Lawless

My last post mentioned a column by Joe Nocera on debt collection practices. Nocera's column is entitled "Why People Hate the Banks," and it appears on the penultimate page of the national print edition of today's New York Times. In a moment of sweet, sweet irony, Citi provides another reason to hate the banks just by turning the page.

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Is Loaning Money at a 350% APR Evil?

posted by Bob Lawless

In the early part of this year, a new start-up called ZestCash launched. Founded by former Google CIO, Douglas Merrill, it appears to be an attempt at short-term consumer lending with a Google-like "don't be evil" approach and markets itself as an alternative to payday loans.The venture caught my eye when mentioned in the New York Times this weekend as part of a story about Gil Ebaz's work of adding value to different services by providing better, more reliable data.

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No Mortgage Deal but Banks get Free Pass

posted by Alan White

The national mortgage settlement among federal and state regulators and major banks, announced with much fanfare on February 8, still has not produced an actual written settlement agreement, judging by the dead link on the settlement web page. That hasn't stopped the Treasury Department from announcing that Chase and BankofAmerica will receive millions in HAMP payments previously being withheld because the banks were not complying with promises they made in their contracts with Treasury to modify loans. The announcement does not say the banks are now in compliance. This is a bit ironic, given that the point of the settlement was supposed to include improving mortgage servicer performance in preventing foreclosures. It does not bode particularly well for enforcement of any future promises made by the banks in the someday-to-be-released settlement.

Kudos to Arthur Delaney at HuffPo for reading the press release, with the anodine tag line "Obama Administration Releases February Housing Scorecard," all the way through.

Credit for Parenthood (in the Wall Street Journal)

posted by Melissa Jacoby

Wall Street Journal Reporter Jessica Silver-Greenberg casts a spotlight on the market for fertility treatment loans - including loans that enable the purchase of other women's eggs  - in the article "In Vitro a Fertile Niche for Lenders."  (subscription required). Perhaps this will prompt some coverage of the adoption loan market, which also has very interesting not-for-profit lending options; the direct financial price of the credit may be low but some complicated strings are attached. My earlier efforts to broadly evaluate the impact of loans in these markets are here and here

Should the Government or the Market Set Mortgage Down Payments? A New Study

posted by Melissa Jacoby

UNC's Center for Community Capital has posted a new analysis of 19.5 million mortgage loans originated between 2000 and 2008 finding that mandatory down payments of 10% would lock out nearly 40% of all creditworthy borrowers while a 20% down payment would exclude 60%. The study finds a significantly higher exclusion rate for African American and Latino borrowers. The authors (Roberto Quercia of UNC, Lei Ding of Wayne State University, & Carolina Reid from the Center for Responsible Lending) do find valuable default-reduction benefits of other forms of strong underwriting as the Dodd-Frank Act already requires (through the "QM" and "QRM" classifications), but signal caution about the significant access costs of government-mandated down payment levels that government regulators may be currently considering.

Foreclosure Timelines and Mortgage Delinquency: More Evidence from Bankruptcy

posted by Melissa Jacoby

At the end of a lively session yesterday at Duke Law School featuring Professor Stephen Ware of University of Kansas Law School, there was a brief discussion of whether shorter foreclosure timelines and clearer rules would promote more workouts of delinquent mortgages. The aforementioned paper about bankrupt homeowners suggests that the opposite might actually be the case: among homeowners in bankruptcy, longer foreclosure timelines in their home states were associated with a lower probability of foreclosure initiation while shorter timelines were associated with a higher probability of foreclosure initiation.

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What is the Relationship Between Credit Cards and Mortgage Delinquency?

posted by Melissa Jacoby

Previously I mentioned this new paper on homeowners in bankruptcy in the American Bankruptcy Law Journal. The central goal of the paper was to investigate what makes homeowners more or less likely to have mortgage troubles as they head into bankruptcy. One of the notable findings is that, across all the models, credit access had a significant effect on keeping mortgages current and avoiding foreclosure initiation (specifics listed pp. 302-304). But why?

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Financial Stability Board Calls for Effective Consumer Finance Protection

posted by Jean Braucher
The Financial Stability Board, an international organization operating under the auspices of the G20 countries, this week issued its Report on Consumer Finance Protection. http://www.financialstabilityboard.org/publications/r_111026a.pdf FSB emphasizes the link between international financial stability and consumer protection, particularly in the mortgage markets. It calls for regulation to assure assessment of borrowers’ ability to pay and to police credit product features that increase risk. The report engages in some comparative analysis and identifies national regulatory architecture that has been particularly effective, such as that of Australia. The report is part of an initiative to stimulate more international discussion of effective means of consumer protection, particularly concerning credit. FSB increasingly sees consumer protection as part of its mission to assess and address vulnerabilities in the international financial system. The report is worthy and sensible. Of course, implementation, primarily by domestic regulation of financial institutions, is a huge challenge.

Occupiers on Bank Law: Fix It

posted by Alan White

If the Occupy Wall Street protests stand for anything they stand for a popular demand to rein in the banks and to bail out the victims of bank excesses.  Screen shot 2011-10-13 at 10.20.24 AMThose of us who study banking law for a living have an important role as public intellectuals, to grapple with where the banking rules broke down and how to fix them. We still have a great deal of work to do. 

Dodd-Frank fell short.  It consisted of a series of half-measures and punts to various agencies.  Break up banks that are too big to fail?  Dodd-Frank instructed the FSOC to think about it but not too much, and so far FSOC has followed its mandate.  Limit executive compensation? Instead we got shareholder say on pay.  Separate utility functions of banks from casino gambling?  In lieu of restoring Glass-Steagall, the watered-down Volcker Rule. Require banks to prevent every preventable foreclosure? Hasn't happened. Make them offer transparent and competitive retail credit and savings products?  Still waiting on a CFPB director appointment before we can work on that item.

Banks don’t make anything; they either provide payment and intermediation services, or they engage in various forms of gambling with other people’s money.  The first two functions used to be thought of as low-profit utility services (3-6-3), and were separated by Glass-Steagall and its weaker cousin Section 23A of the Federal Reserve Act  from gambling and speculation. 

Banks make, sell and rent money.  Our fiat currency (decoupled from gold by Republican President Richard Nixon), consists of IOUs from banks, which in turn depend entirely on the faith of people and businesses in those IOUs, and on the willingness of the United States taxpayers to back them up.  In other words, banks trade on government backing; it is their essential product.  The days are long gone when any sensible person would accept a purely private bank note as money.  For this reason, banking is fundamentally different from industries that make things and sell them.  We need to vigorously reassert this principle, and end the charade that regulation of banking is some sort of unwarranted intrusion into a free market enterprise.  We need to get serious again about real banking regulation.

Fannie Mae Pushing Foreclosures

posted by Alan White

Story in the Detroit Free Press today here, and my commentary at Consumer Law & Policy here.

Fed to Wells: $7000 for Wrongful Foreclosure

posted by Alan White

Yesterday the Fed announced a settlement with Wells Fargo of claims that its subprime unit had 1) deliberately steered prime borrowers into higher-cost subprime mortgage refinancings and 2) falsified income documents to put subprime borrowers into unaffordable loans.  The settlement provides for an $85 million fine, plus an elaborate claims-based compensation procedure for victims, who may number 10,000 or more.  Notably, families who lost their home in foreclosure as a consequence of Wells Fargo's illegal steering are to receive $7,000 for the loss of their home.  That should cover some moving costs and a month's rent or so.   As far as I could tell the agreement does not provide for consumers to release claims in exchange for these paltry sums, but advocates would be well advised to review settlement notices with affected consumers carefully.

The Fed announcement touts this wrist-slap settlement as the largest consumer protection enforcement fine in its history.   Ample evidence that consumer protection against financial institutions needs to be transferred to a real enforcement agency at the earliest.

Insurance Redlining and Transparency

posted by Daniel Schwarcz

Insurance nerds like to point out that insurance coverage is a pre-requisite to a wide range of activities, from starting a business to practicing medicine to driving a car.  In this sense, insurers often serve as gatekeepers to fundamental social privileges.  Nowhere is this more starkly illustrated than in the residential real estate context.  As one court succinctly put it: “No insurance, no loan; no loan, no house; lack of insurance thus makes housing unavailable.”  

Given the centrality of both credit and insurance to home ownership, one might expect that the rules in these two domains would similarly respond to the risk of redlining, which is the practice of denying or charging more for services in residential areas with large minority populations.  But as with coverage terms and claim handling, quite the opposite is true: whereas bank regulation has embraced transparency, insurance regulation has actively rejected it.  

Continue reading "Insurance Redlining and Transparency" »

Responsible Lending as an Emerging International Norm

posted by Jean Braucher

The International Association of Consumer Law, with participants present from six continents, has been meeting at Brunel University in West London the last few days, hearing presentations from regulators, industry representatives, consumer advocates, and academics.   http://qwww.brunel.ac.uk/bls/research/events/ne_41734   Not surprisingly, regulation of consumer credit has been a prime focus, giving some perspective on US struggles to achieve more effective consumer financial protection. 

Professor Iain Ramsay of the University of Kent in the UK reported on initiatives for international cooperation to enhance consumer financial protection.   The G20, World Bank, Financial Stability Board, and Organization for Economic Co-operation and Development are all on board with this goal, seeing it as an essential part of a program to ensure that the international financial system is safe and sound.  The OECD is expected to issue draft principles of consumer financial protection soon, and comments will be invited.  Given the primarily prudential role of these organizations, balance from other sectors will be important.

Ramsay raised an underlying and overlooked question:   what is the economic and social value of consumer credit?

Continue reading "Responsible Lending as an Emerging International Norm" »

IMF Structural Adjustment for US - Write Down Mortgages

posted by Alan White

I have argued for some time that deleveraging U.S. homeowners, who still carry more than $10 trillion in mortgage debt, is not only a social imperative but essential for the economic recovery.  According to the IMF in its latest semiannual report, failure to deleverage American borrowers is a continuing threat to global economic stability.  The Washington consensus is now fractured, apparently, with the IMF and economists on one side and the banks bleating on the other, with Treasury dithering in ambivalence.

Meanwhile, in vaguely related news, S&P, in a bid to restore its credibility after the massive reclassification of AAA mortgage-backed securities to junk, now takes a flyer into the budget debate and announces US Treasury debt's AAA rating is under review.  Really S&P?  Where would you then suggest SWF's park their excess capital instead?  Fannie and Freddie issues, perhaps.

Transmission Channels

posted by Sarah Woo

The BIS folks have just released a literature review about the transmission channels between the financial and real sectors of the economy. This is a pretty comprehensive literature review (which also means that it is a tad dry), but there are interesting bits in their identification of gaps in the literature.

One of the observations in the paper led me to consider a question: is cash-flow based lending or collateral-based lending more susceptible to systemic risk? Which of them serves as a stronger transmission channel for risk between the financial and real sectors? The answer might point the way to better regulation of the financial industry.

Continue reading "Transmission Channels " »

Macroprudentially Yours: A Literature Review

posted by Anna Gelpern

"Macroprudential" (policy, outlook, regulation, zeitgeist ... whatever ...) has been so in  of late, it threatens to beat out its cousin "Systemic" for the Random Overuse Award of the Century.  Worse, it is even trite to say that no one knows what Macroprudential is, or how to do things Macroprudentially:  macroprudentialists are totally hip to this line and have their talking points lined up ...  but in the end, you are still left wondering, if a little more sheepishly.  Nonetheless, I am convinced that the quest for macroprudential meaning is essential to design and implement viable financial reform.  There seems to be no better language to talk about interconnectedness, transmission, contagion, spillovers, and all the other scary crisis business at once.  This is why I was thrilled to stumble on this literature review from the ever-helpful folks at BIS.

Continue reading "Macroprudentially Yours: A Literature Review" »

Must-read Crisis Book

posted by Alan White

Today's mail brought my hot-off-the-press copy of the essential crisis reference, The Subprime Virus by Kathleen Engel and Patricia McCoy.  Subprime Virus chronicles the rise and fall of the subprime market and the regulatory (non) response, from the Clinton Administration through the 2007/2008 financial crisis, the bailout and the Dodd-Frank reform legislation.  The most vital contribution comes in Part III, where the authors relentlessly catalog the missed opportunities, systematic capture and complete failure of one regulatory agency after another, including the Federal Reserve, the banking regulators and the SEC.  The authors, of course, enjoy a unique credibility for having warned us early and often about the dangers of subprime lending and securitization, for both homeowners and investors. For those looking for an authoritative, scholarly and accessible account of the subprime crisis from its origins in the predatory lending of the 90's through the bubble, blow-up and bailouts, look no further.

Building a Culture of Compliance

posted by Annelise Riles

I was scheduled to speak at the AALS Financial Institutions breakfast this morning, but due to flight cancellations I was unfortunately unable to attend. I’m posting below a summary of what I intended to say there, and which I had already planned to share with the readers of Credit Slips anyway. I wanted to talk about what anthropological research among market participants and regulators tells us about how to change the way people behave in the financial markets.  After all, the whole point of regulation is just this--to change behavior. Yet how do you do it?

Continue reading "Building a Culture of Compliance" »

Debt Causes Bankruptcy (But Sometimes in Counter-Intuitive Ways)

posted by Bob Lawless

I like NPR's Marketplace, but stories like this drive me nuts: "Why bankruptcy claims aren't as high as one would think." The story repeats a premise I often hear in media calls that I receive. The conversation usually starts something like this: "Foreclosures are up, unemployment is high, the economy is a wreck: why have bankruptcies stopped climbing?"

Wrong question. But fair enough. I get called because I am supposed to know something about bankruptcy filing rates, and my caller often has just picked up the assignment for the day. If that is the wrong question, what should we be taking away from trends in bankruptcy filing rates?

Continue reading "Debt Causes Bankruptcy (But Sometimes in Counter-Intuitive Ways)" »

What Can We Learn from Wikileaks About Market Regulation--or, Is Transparency Always a Good Thing?

posted by Annelise Riles

In the wake of the Wikileaks debacle, we have started to see some conversation in the editorial pages about whether transparency is always a good thing in international affairs. The point is that there are times when allowing the parties to talk in private may help to reach optimal outcomes for all sides. As we learn more about the personalities and motivations behind the leaks, also, the image of the whistleblower as the pure-hearted pursuer of truth and justice is getting a bit tarnished. It is a complicated issue, with room for reasonable people to disagree, but that in itself is news: it used to be that if you were against transparency you had to be for cronyism, corruption, and fraud, and in fact everybody everywhere felt compelled to assert that they were of course in favor of full public disclosure. Now we are not quite so sure.

I think that some of the heatlhy skepticism--or at least complexity of thought--about transparency that is coming into the public debate about foreign affairs also has a place in the conversation about the regulation of financial markets. Why?

Continue reading "What Can We Learn from Wikileaks About Market Regulation--or, Is Transparency Always a Good Thing?" »

Memo to Elizabeth Warren: How to Do Things With Documents

posted by Annelise Riles

Elizabeth Warren has proposed, as one of her first initiatives, that banks should simplify their standardized credit card contracts with customers to insure that customers understand what they are signing.This proposal has generated lots of enthusiasm among centrists as a modest, relatively non-political initiative, something that hardly anyone could be against, but that holds out the possibility of reducing fraud and confusion in the credit markets by at least ensuring that consumers know what they are getting into.

Continue reading "Memo to Elizabeth Warren: How to Do Things With Documents" »

Credit Cards to Payday Substitution?

posted by Adam Levitin

Over at Volokh Conspiracy, Todd Zywicki spent Christmas Eve crowing about a Wall Street Journal article about the boom in payday lending. Todd sees the article as vindication for his insistence that regulation of consumer credit will inevitably result in a substitution of another type of credit. For Todd, the substitution hypothesis makes regulation not just pointless, but actually harmful because it will eventually push consumers into the arms of loan sharks.  

There are a whole bunch of problems with the substitution hypothesis, as well as for Todd's interpretation of the WSJ article. Todd writes that: 

Maybe instead we ought to acknowledge that there will be unintended consequences, such as by making credit cards less available regulation will drive many consumers to substitute to more expensive types of credit, such as payday loans? And just wait until the well-intentioned bureaucrats at the CFPB really start protecting those poor folks, then they are really going to get it.

For starters, Todd doesn't accurately summarize the WSJ article. He implies that it was referring to credit cards in general. It wasn't.  It was referring to subprime credit cards. The WSJ article quotes a payday lender as stating, "We believe that we're starting to see a benefit of a general reduction in consumer credit, particularly ... subprime credit cards."  

It turns out that subprime credit cards are often as or more expensive than payday loans. The Credit CARD Act severely curtailed a type of subprime card called "fee harvester" cards. A 2007 NCLC study shows that the costs of fee harvester cards rival or exceed payday loans. So if there's substitution here, it might actually be a good thing. The article is certainly not evidence for middle class consumers getting driven into the arms of payday lenders. Instead, at best, it shows some substitution of fringe financial products and it isn't clear that it is harmful substitution. 

Continue reading "Credit Cards to Payday Substitution? " »

Welfare Economics and Consumer Credit Paper

posted by Alan White

I have just posted a working paper on the welfare economics of microcredit and payday lending.  The paper tries to address some of the questions raised by, among others, Jim Hawkins, discussed in previous posts here and here.  Post-crisis consumer credit regulation, it seems to me, will have to proceed from norms other than revealed preferences utilitarianism.  Accepted criteria for judging the success or failure of  future regulation will be an essential first step in elaborating a fact-based regime of consumer credit rules.

Principles Aren't Always Enough; Rules Are Needed Too.

posted by Ethan Cohen-Cole

In my last posting, I discussed the tradeoffs of regulation on the consumer side, and the extent to which disclosure would be sufficient to resolve consumer protection issues.

Here, I pose a simple problem to illustrate why principles based regulation would be inadequate.

Continue reading "Principles Aren't Always Enough; Rules Are Needed Too." »

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  • As a public service, the University of Illinois College of Law operates Bankr-L, an e-mail list on which bankruptcy professionals can exchange information. Bankr-L is administered by one of the Credit Slips bloggers, Professor Robert M. Lawless of the University of Illinois. Although Bankr-L is a free service, membership is limited only to persons with a professional connection to the bankruptcy field (e.g., lawyer, accountant, academic, judge). To request a subscription on Bankr-L, click here to visit the page for the list and then click on the link for "Subscribe." After completing the information there, please also send an e-mail to Professor Lawless (rlawless@illinois.edu) with a short description of your professional connection to bankruptcy. A link to a URL with a professional bio or other identifying information would be great.

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