The Consumer Financial Protection Bureau Should Protect Fair Negotiations (not the poor)

7Jan/12

The Consumer Financial Protection Bureau Should Protect Fair Negotiations (not the poor)

Recently, President Obama appointed Richard Cordray to be the head of the new Consumer Financial Protection Bureau, created in the wake of the financial crisis to protect consumers. What exactly does it mean to 'protect consumers'?

To some, the goal of the agency is to protect the poor, by regulating companies that provide "payday loans" to poor consumers, often charging extremely high interest rates. I recently listened to an old episode of This American Life, entitled The Giant Pool of Money, which detailed the struggles of some who were given loans that they couldn't pay and the resulting human cost. As a liberal, I am prone to be sympathetic to whatever we can do to improve the lives of the lease fortunate among us.

However, the thing that angered me most in the episode was the story of a veteran who qualified for a Veteran's Home Administration loan, but was instead given a loan for which the mortgage broker received a higher commission, and now pays a 10% interest rate. This veteran has a job and continues to pay his mortgage, but clearly was taken advantage of by someone who likely presented themselves as working on his behalf, but instead wanted a better commission. According to the episode, the commission for this purchase was $18,000 and mortgage brokers at the time were earning $75-100 thousand dollars per month (for a job with little societal benefit).

There will always be a way for people to take advantage of others, whether due to the desperation/need of others or due to their lack of understanding. However, not all immoral ways of making a living are necessarily illegal. Republicans have been consistent in their criticism of the Dodd-Frank law which created the Consumer Financial Protection Bureau. Mitt Romney has promised to repeal it. There is something to be said for the idea that sometimes protecting the poor can cause inefficiencies in the economy and there is no doubt that the liberal impulse to help the poor, and extend them credit, was one of a number of contributing factors to the financial crisis, in that incentives were created to loan money to those who could not afford it. However, I think both liberals and conservatives would agree that when financial negotiations take place, steps should at least be taken to ensure that everyone understands the process.

Below is some data that is suggestive, though not definitive, that liberals and conservatives (as well as moderates and libertarians) might agree more about ensuring a fair process, as opposed to making sure that the poor are protected from predatory lenders. While liberals might feel that protecting the poor is a more immediate concern, the most consensus exists (higher wrongness scores for conservatives/libertarians) for ensuring that everyone completely understands the process when a negotiation occurs.

In the wake of his controversial nomination, Cordray himself positioned the agency as ensuring a fair process, rather than a fair outcome.

The battle between liberal and conservative ideas can be seen as the battle between the balance between ensuring a prosperous society and ensuring a society that cares for the least fortunate in it. Both goals are served by fair, open negotiations where all parties understand what is agreed to, and where people earn a living through activities that add societal value. Whether it is via Dodd-Frank, the Consumer Financial Protection Bureau, or some other means devised by Republicans, I'm hopeful that a consensus can occur around protecting consumers from those who might take advantage of their relative lack of information.

- Ravi Iyer

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Tagged as: fairness, liberals and conservatives, mitt romney, richard cordray, this american life Leave a comment

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Otis
January 11th, 2012 - 07:45

Hi Ravi, thanks for the post. I liked your points but there are a couple of things to consider along with them. Mortgage brokers are required to disclose their fees to home buyers. That vet could have plainly seen how much that guy was making. There’s not much difference between this transaction and someone really wanting a soda, then going to the counter to find it cost $10.00 and still buying it. How much as a society are we to protect the uninformed? While it is true that a lender can say a whole bunch of misleading things, in the end, someone signs the agreement where these unfavorable terms are in black and white.

VA loans also have caveats that conventional mortgages do not, because the gov’t is backing it. For instance, if you want a fixer-upper, the VA will not approve the loan if the house has basic defects in the primary systems like the roof, or heating system. I’ve seen the VA require a new garage door be installed prior to approval because there was rust at the bottom of a panel. It is entirely possible that this vet could not use his VA loan because of the type of house he bought.

Here is a problem in this mess that gets little traction. Every time a lender pulls your credit profile from the bureaus it gets counted. After a number of pulls, it affects your credit score negatively. This makes it difficult to shop mortgage brokers once you find out you are being overcharged. Credit bureaus believe your credit score is their property, not yours. This is a fundamental problem with the entire system.
Ravi
January 11th, 2012 - 11:50

fair points, but I personally think that, in our time crunched society, people should not be allowed to say misleading things and then have unfavorable terms in a written contract that aren’t consistent with what they say. For better or worse, I “sign” things all the time (e.g. the itunes download agreement) that I have no idea of the contents of. It’s relatively easy for people with more information and more experience to take advantage of others. I don’t think people should be protected from the $10 soda, but I do think that people should be protected from _unknowingly_ buying a $10 soda. Making money by taking advantage of others is simply wrong.

Your point about the credit bureaus is indeed a good one. I can see some other more consumer/business friendly entity replacing them soon.
Otis
January 11th, 2012 - 17:51

To the best of my knowledge, the disclosure statement from mortgage brokers is a one page document that is plain as day. I have lived in several states and that has always been the case, hence my soda analogy. I do agree that it is fundamentally wrong to lie and cheat or take advantage, but its such a gray area. Where do we draw the line on protecting vulnerabilities? What if the font is too small, or English is not a first language, or a consumer is just not that bright?

For instance, I live in FL which has protections for taking advantage of a senior citizens. But how is it more of a crime to take advantage of someone who is 70 as opposed to someone 30?

Then we get to billionaires. Was it wrong for Bill Gates to charge so much for Windows to make him that much money? Didn’t he take advantage of all aspects of society (education, public, private) when Windows was the only game in town? Its not possible to be ultra rich and egalitarian. Somewhere in between those two extremes someone crosses the line between making a buck and taking advantage of a situation. I find it difficult to think that Bill Gates was not as culpable as that mortgage broker (assuming the disclosure statement was issued and clear as a bell).

Its touchy to discuss the line between personal responsibility and the need for protections, but its one that needs constant reappraisal to reflect the wishes of a society.
Ravi
January 13th, 2012 - 20:05

Otis, thanks for your thoughtful comments.

It is a gray area, but personally, I think I would err on the side of making sure everyone is aware. Yes, small fonts, 2nd languages, and dumb consumers all need to be taken into account. The point is that we should make sure people understand what they are agreeing to, with all possible information.

I think the case of Bill Gates is entirely different. It is perfectly fine to charge a lot of money and get rich as long as everyone is aware of the options. In the case of the mortgage broker, if the client is unaware of other options, the bonuses the broker is getting, and/or what the payment will be after the rate resets, then it should be made clearer. In the case of buying Windows, there is no information advantage.

Another way of looking at it is to examine whether the people who are selling these deals are actually adding value to society. People who sell inferior products through sales tactics, false friendship, the illusion they are working on your behalf, verbal promises, informational advantage, or unclear terms are actively reducing value in society. Now not all things that are detrimental to society should be illegal, but there is definitely a difference between making money by providing a real service (Bill Gates) and making money immorally (e.g. a mortgage broker who steers a client towards a higher commission product that is worse for the client).
societal worthless mortgage broker
January 18th, 2012 - 15:30

VA and FHA loans paid higher compensation rates than sub-prime loans. Normally a 50 basis point increase to interest rate would yield 1 pt YSP for a sub-prime loan while the same interest rate write up would yield 2 to 3 points YSP.
Ravi
January 23rd, 2012 - 00:25

I don’t know the details of this, but if what you are saying is true, I would write the producers of This American Life as it definitely contradicts the impression they give on the show. It is true that I didn’t independently verify the contents of their story.