I felt certain when I read the Financial Times headline, “Proposal sees consumer watchdog role for Fed,” that I must have woken up in a bizarre parallel universe (but that is probably unfair to pretty much all universes parallel to ours: I imagine it would be very difficult to have one more perverse than ours). But no, sadly, this headline is for real; the only possible good news in this account it that this dreadful idea is far from a done deal.
Putting the proposed consumer financial services watchdog in any existing agency, save perhaps the FDIC, no matter what the professed logic is, is really a plan to neuter it (ironically. Richard Shelby, who was the original moving force against having the proposed new agency be independent, wanted to house it at the FDIC; it is the Democrats who are now responsible for the further devolution of this plan). The Treasury, Fed, and Office of the Comptroller of the Currency are notoriously bank friendly. Think they are gonna do anything to seriously inconvenience their charges? Not on your life. The sole reason the FDIC could be a viable choice is that it is the only Federal bank regulator that is serious about enforcement. And that is due to the simple fact that if they mess up on enforcement, they wind up with more dead banks, which is embarrassing, costly, and a ton more work for them than preventing train wrecks in the first place (to the extent they can).
And as bad a choice as the Treasury was (the former planned place to bury the financial products consumer protection agency), it would be part of the Administration, and hence subject to political pressure. Although the Fed is in the process of getting its wings clipped a tad, has managed the neat trick of playing an increasingly political role (starting with Greenspan, in a break with the practice of past Fed chairman, of weighing in on policy issues) while remaining utterly unaccountable to anyone.
The concerns and realities of ordinary people have simply not registered with the Fed (in fairness, consumer protection has never been part of its charter). But the Fed was negligent in executing duties assigned by Congress on the consumer front. Congress did pass something called HOEPA (Home Ownership and Equity Protection Act) that defined subprime mortgages and called for subprime activity to be reported to the relevant regulators. The Office of the Comptroller of the Currency, which also oversees banks, used HOEPA to monitor subprime lending and rein in extreme behavior. The Fed could have done so, but chose not to. In June 2007, Congress was pressuring a resistant Fed to rein in abusive mortgage practices. And did that have any impact? This update, right before the storm burst, July 2007:
A good old-fashioned showdown is set for this week between the Congress and the Fed. Congressmen are hoppin’ mad at the Fed’s failure not only to act to stem overheated and sometimes predatory subprime lending, but also its patent lack of enthusiasm in doing anything to keep this and other predatory practices from recurring. And they have some justification for their annoyance. While admittedly the Fed regulates only a portion of the institutions that were involved in subprime lending, it failed to use the tools it had available, most notably the Home Ownership and Equity Protection Act (by contrast, the Office of the Comptroller of the Currency, made use of HOEPA and had relatively few abuses among the banks it supervises).
There is a reason the Fed has been so tone deaf on this issue. It does not see borrower protection as part of its job (it isn’t part of the original Fed charter) and the little we’ve seen directly also suggests the Fed is a staunch believer in free market ideology (remember, Greenspan was an acolyte of Ayn Rand and Bernanke hasn’t had the time to put his own stamp on the institution).
Congress is threatening aggressive moves, namely, moving some of its regulatory authority to other agencies, if the Fed doesn’t fall into line.
And consider this quote from Dodd himself:
“They had a job to do, and they didn’t do it,” said Senate Banking Committee Chairman Christopher Dodd, (D., Conn.), of the Fed’s performance. “A lot of people are hurt, and I’m angry about it,” added Mr. Dodd, who is seeking the Democratic presidential nomination.
Yves here. Do we have a single shred of evidence to support the notion that the Fed has undergone a miraculous conversion experience as a result of the crisis and will now act as staunch defender of the little guy? I certainly haven’t seen it.
In fact, the central bank already has broad authority to bar practices it sees as unfair and deceptive. The push to create an independent consumer financial services watchdog was precisely because the Fed and other regulators had been so hopelessly derelict in exercising these duties.
Congress was prepared to strip the Fed of some of its authority three years ago due to its abysmal failure to do anything about subprime abuses, even in the face of rising defaults, media coverage of fraud, and pressure from Capitol Hill. Now Dodd is prepared to reward the Fed for the very same conduct he roundly criticized three years ago. We can only assume he has already started serving his post-Congressional constituency.
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Yves,
I think you’re missing the logic of this move. (Don’t get me wrong: I thought the exact same thing as you when I first saw this. But once I thought about it for a while, I figured out the logic of the move, and it actually could end up being quite shrewd.)
Ideally, the CFPA would be a self-funded, independent agency. The great benefit of that arrangement is that it would create an agency (1) whose sole purpose for existing is consumer protection (which is huge, because that means it’ll always find more consumer protection to do), and (2) relatively free from political interference. Housing the CFPA inside Treasury is sub-optimal because the Treasury Secretary is a political appointee, and the CFPA would likely not vigorously enforce consumer protection regulations under Treasury Secretary Phil Gramm. (Plus the CFPA could be de-fanged through the budget process.)
Housing the CFPA inside the FDIC would make the CFPA both self-funding and relatively free from political interference, but there’s a huge jurisdictional problem with that plan. The FDIC only has jurisdiction over commercial banks and thrifts, and one of the main purposes of the CFPA is to regulate all the non-bank lenders out there. (That’s the reason Shelby proposed putting it in the FDIC.) So an FDIC-housed CFPA is a non-starter.
The Fed, on the other hand, does regulate non-banks. It’s also self-funding, and is the regulator most insulated from political interference. So if we set up a CFPA inside the Fed, we will have achieved the goal of having a self-funded regulatory body that’s relatively free from political interference. Now, I know what you’re going to say: “The Fed is institutionally biased in favor of the banking industry, and anyway, Alan Greenspan never would have allowed a strong consumer regulator inside the Fed!” And that’s true. But now we just have to insulate the Fed-housed CFPA, in its rulemaking and enforcement capacities, from the Board of Governors. That can certainly be done, and in a much more subtle and less controversial way than just waging an “Independent CFPA or Bust!” campaign. We don’t need total insulation from the Board of Governors either, because if consumer protection is made part of its charter, then the Board won’t be as hostile to consumer regulation as it has been in the past.
Essentially, the idea would be to have the CFPA leech off of the Fed’s independence. If structured properly, it could be a really shrewd move. Much shrewder than I thought Dodd or his staff was capable, frankly! Seriously, you should write this plan off before we see it.
(I probably should have made this into its own post, but whatever, I’ll post it as a comment.)