Interesting critique of Consumer Financial Protection Bureau

Ronald Mann (who is always original and insightful on consumer credit regulation)  just posted an interesting, short, readable (from a talk) paper on SSRN:  “After the Great Recession:  Regulating Financial Services for Low-and Middle-Income Communities.”  He critiques the “modern, post-recession regulatory strategy” exemplified by the approach of the new Consumer Financial Protection Bureau—an agency that Mann points out is uniquely the creation of the work of academics (most notably Elizabeth Warren) – both in concept and in its regulatory strategy (based on behavioral economics).  Mann argues that the CFPB’s strategies display two fundamental flaws.  First, he argues, they are “designed by and for traditional middle-class households, their behavioral tendencies, and their problems.”  He argues that much of the writing supporting the CFPB’s regulatory approach starts from the premise that financial service providers use “tricks” to entice consumers to make foolish financial decisions (such as borrowing from payday lenders instead of using credit cards).  The solution to this lies in “classical neoliberal regulatory strategy:  using paternalistic intervention to correct market imperfections.”   In fact, Mann argues, there is a growing body of research showing that low-and-middle income (“LMI”) households are in fact very adept at making financial decisions that are, in fact, the most sensible decisions for their situations.  For example, it might be perfectly rational for someone close to the poverty line to borrow for short-term emergencies from a pay-day lender, rather than use unused credit on a credit card; the payday lender will only lend to someone with a job, which the credit card line would still be available if a borrower loses that job and really needs money for a family emergency.

This leads to Mann’s second ‘fundamental flaw’:  the CFPB’s approach focusses exclusively on problems in the “market interface between the financial services firm and its customer” (such as disclosure requirements to unmask the ‘tricks’ used by lenders), ignoring and diverting attention from other relevant social or economic issues.  Mann argues that the basic problem isn’t that LMI households are being tricked, but rather than they are poor.  Behavioral economic’s focus on how we can stop people from making unwise choices misses the larger problem of the lack of any financial options for the truly poor.  He states:   “What we need to do is help them with the difficulties of being poor, not pretend that their poverty is irrelevant to their financial choices.”

Mann doesn’t claim to have any magic solution to the problem of poverty, but he recommends that the CFPB take a broader and more careful look at the reality of distressed households’ situations.  Instead of paternalistic approaches involving protecting LMI households from the alternative financial services providers preferred by LMI households (like payday lenders), and disadvantaging such providers by restrictive regulatory regimes not applicable to the more traditional financial service providers that he middle and upper classes us, Mann suggests the CFPB might try to creatively work with lenders to try to foster a model of small-loan lending that could be profitable for legitimate lenders, and serve the short-term credit needs of the poor.

Mann’s conclusion brings to mind some of the discussion in Pope Benedict’s Caritas in veritate about the value of alternative credit providers such as pawn shops, micro lenders, etc. (discussed in this article of mine a few years ago).